On the role of verifiability and commitment in credence goods markets

Yuk-fai Fong, Ting Liu () and Donald Wright

International Journal of Industrial Organization, 2014, vol. 37, issue C, 118-129

Abstract: A client has a problem, but does not know whether it is serious or minor. She consults an expert who can correctly diagnose and fix her problem. This paper characterizes the equilibrium pricing and recommendation strategies of an expert under the assumptions that i) the type of treatment is verifiable by the client, ii) the client has the option of rejecting any treatment recommendation, and iii) the expert is not liable for the outcome of the treatment. It is found, for any parameter configuration, that there exist equilibria in which the expert makes fraudulent recommendations resulting in inefficient treatment. The market outcome is compared with that under an alternative market environment in which the expert is liable for treatment outcome but the type of treatment performed is non-verifiable. It is shown that for some parameter configurations the equilibrium is more efficient when liability is in place than when the treatment is verifiable. These findings stand in sharp contrast to the received wisdom that the market outcome under verifiability of treatment is efficient while the market outcome under liability for outcome is not. Finally, this paper shows that the existence of some honest experts may induce more fraudulent behavior by opportunistic experts.

Keywords: Credence goods; Verifiability; Commitment; Efficiency (search for similar items in EconPapers)
JEL-codes: D4 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (34)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:indorg:v:37:y:2014:i:c:p:118-129

DOI: 10.1016/j.ijindorg.2014.08.004

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