Quality disclosure strategies for small business enterprises under consumer loss aversion

Abstract

In this paper, we focus on small business enterprises (SBEs) that usually have low market power but can rely on retailers to transact sales and gain the ability to disclose quality information. Moreover, consumer loss aversion (CLA) is pronounced when buying from SBEs that have yet to develop a strong reputation and uncertain quality. We focus on two competing SBEs with heterogeneous quality levels and discuss their quality disclosure strategies— whether selling through a retailer— in the context of CLA. We study the interaction between consumers' prior belief in product quality and CLA and how these factors affect equilibrium outcomes. We show that a situation in which low-quality and high-quality SBEs both choose to disclose will not occur under a neutral consumer attitude, i.e., it happens only when the aversion level is significant. When the aversion level is low, either the low-quality SBE or the high-quality SBE will decide to disclose, and the disclosing party depends on the prior belief. In addition, CLA significantly impacts the monotonicity of both SBEs' and retailers' prices and profits relating to the consumers' prior beliefs.