Consumer Information, Product Quality, and Seller Reputation

Abstract

This article analyzes markets in which consumers are imperfectly informed about product quality. An important force that prevents deterioration of the quality supplied by sellers is the formation of firm-specific reputations. It is shown in general that reputations, because they can reward high quality production only with a lag, can work only imperfectly. Viewing reputation as an expectation of quality, this article studies the properties of quality expectations that are fulfilled. When sellers set quality once and for all, any self-fulfilling quality level must lie below the perfect information quality level. The same is true of steady-state quality levels when sellers can vary quality over time. Finally, the relationship between consumer information and product quality is explored.