Credence attributes and market performance

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Credence attributes and market performance

• Roles for government in addressing asymmetric
  information problems
• Jane Harris
• Consumer Affairs Victoria, September 2009

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A current and growing issue

• Burgeoning interest in impacts of consumption and
  production, particularly of food, on credence
  attributes such as
• health (GM-free, organic, nutritional labelling)
• the environment (sustainability, virtual water,
  food miles, carbon footprint, recyclable)
• animal welfare (free range, dolphin friendly)
• social welfare (locally grown, fair trade)
• This is likely to continue as the economy
  develops
• Underlying problems in markets with credence
  attributes have long been recognised by
  economists

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Profound and pervasive problems

• Nobel prizes awarded to Akerlof (market for
  lemons) and others for recognising markets with
  asymmetric information do not perform pretty
  much like other markets.
• If producers cant signal the existence of high
  quality, markets collapse or dont exist.
• Credence attributes particularly vulnerable
• Markets that do exist are susceptible to
  unscrupulous operators (cheating behaviour)

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Signalling

• To address problems due to asymmetric
  information, sellers use various mechanisms to
  signal quality to consumers including
• warranties and guarantees
• investments in branding, advertising and sunk
  costs (eg shopfronts)
• product standardisation, rating schemes and
  third-party certification
• licensing and registration schemes.
• Some of these are provided by government or
  facilitated by government depending on potential
  consumer detriment and other benefit-cost
  considerations
• There can be incentives for the private sector to
  try to transfer signalling costs to government

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Regularly we hear calls for a variety of forms of
government intervention

• More standards more traceability more
  rating schemes
• Mandatory labelling of attributes or disclosure
  
• Government endorsement of privately-developed
  ecolabelling schemes
• General calls for more regulation
• Important for government to have strong
  consistent messages about efficient policy
  instruments

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Efficient policy instruments to address
asymmetric information

• Efficient instruments cause minimum distortions
  because they directly address the root causes
  of a problem
• Incentive to cheat is inversely related to the
  probability of detection X the penalty if caught
• Probability of detection can be improved (with
  minimum distortions) by
• Compliance and enforcement
• Well-resourced and publicised enforcement of
  general laws such as the Fair Trading Act and
  proactive monitoring
• Consumer knowledge
• Better measurement/metric systems and information
  about evaluating claims
• Mandatory labelling (or disclosure) is NOT
  generally efficient unless there are other types
  of markets failures to consider but even then it
  may not be the best option

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Other market failures? 1. Externalities

• Mandatory labelling is often advocated to
  address environmental issues (externalities) but
  is rarely cost-effective because they dont
  target the root cause of the problem
• Indirectly targeted policy instrument cause
  distortions, or side effects, in other parts of
  the economy and they dont successfully treat the
  problem
• All production is subject to minimum legal
  requirements about the environment, animal
  welfare etc and many people depend on the
  cheapest goods possible
• HOWEVER
• policy instruments aimed at asymmetric
  information will also provide confidence to
  those who wish to confidently purchase
  ecolabelled goods
• policy instruments aimed at asymmetric
  information can be held up to ward off calls
  for labelling (and other inefficient policy
  instruments) to address externalities

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Food miles an example

• Definition - the transport distance between
  production and consumption to address
  environmental concerns (greenhouse gases) and
  regional development concerns
• Not targeted at root cause of problem
• Greenhouse gases are not caused by people having
  insufficient information about food
  transportation
• Therefore other problems emerge
• Doesnt necessarily indicate greenhouse gases
  involved in production OR overall environmental
  impact (DOESNT WORK)
• Penalises non-locally grown products and this
  impacts on development which is particularly
  harmful for food exporting nations and developing
  countries
• Can be a disguised attempt at protectionism
  against which Australia continually lobbies
• Raises prices of goods to ALL consumers not just
  those prepared to pay premiums
• Under an efficient global response (eg ETS)
  additional measures wont contribute to overall
  reductions in greenhouse gases
• Others
• Letter from an economist to Epicure editor
• Protecting old growth forests by subsidising
  recycled paper

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2. Public goods

• Health Mandatory front of pack nutritional
  labelling might be cost effective (Golan et al),
  by providing a consistent format (eg traffic
  lights) to assist consumers make healthy choices
  more easily
• Still being researched and Australia is watching
  developments overseas

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Main points

• Profound and pervasive problems exist when there
  are credence attributes and these are increasing
  in importance
• Vigilance is required to guard against indirect
  policy isntruments (which can appear attractive
  at first glance) and to advocate for
  implementation of existing efficient policy
  instrument
• Policy instruments aimed at information
  asymmetries can assist in credibility of claims
  associated with externalities but
  disclosure/labelling is not generally an
  efficient way of achieving environmental
  objectives
• REMEMBER
• It can be as important for policy officers to
  mount cases against bad ideas as to suggest good
  ones
• Implementing good ideas (eg more enforcement of
  general laws) helps in arguing against bad ideas
  (eg additional industry specific regulation)

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Further reading

• Akerlof
• Other NOBEL
• (Golan, Kuchler and Mitchell (2000), Economics
  of food labelling, AER No. 793.)
• Food miles and virtual water
• HARRIS AND COLE (CONSUMGIN INTERESTS ETC)