Credence Goods, Consumer Misinformation, and Quality

Soham Baksi (), Pinaki Bose and Di Xiang

Departmental Working Papers from The University of Winnipeg, Department of Economics

Abstract: For certain products, consumers' misinformation about quality is more endemic at intermediate levels of the quality spectrum rather than at the top or the bottom levels of quality. Using an oligopoly model of vertical product differentiation with three quality levels - green, natural, and brown - we examine the consequences of consumers' overestimation of the quality of the natural (i.e. intermediate quality) product. There are three firms in the market, with each type of firm producing the corresponding type of the product. The firms choose the quality level of their product before choosing its price (Bertrand case) or quantity (Cournot case). Irrespective of the nature of second stage competition, we find that quality overestimation by consumers increases profit of the natural firm, and motivates it to raise its product’s quality. In response, the green firm improves its quality even further, but ends up with lower profit. Overall, average quality of the vertically differentiated product improves, which raises consumer surplus. Social welfare increases when firms compete in prices but falls when they compete in quantities.

JEL-codes: L13 L15 M30 (search for similar items in EconPapers)
Pages: 23 pages
Date: 2012-06
New Economics Papers: this item is included in nep-bec, nep-com and nep-tid
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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