Adverse selection happens when there is information asymmetry between buyers and sellers. One side takes advantage of information that isn't known to the counterparty.

It's one of the most important economic ideas to think about when starting a company or buying or selling anything. A few examples of adverse selection in technology markets:

Let's say there are two types of employees – good" and bad. Employers are willing to pay more for good than bad ones, but they can't tell ahead of time. This risk means that the good employees are underpaid, and the bad employees are overpaid. Good employees can earn more by sending an observable signal – in many cases, education or credentials. Good employees have lower opportunity costs to get these credentials.

Mike Spence won the Nobel Prize in Economics for his work on Signalling Theory, among other papers.