Chapter 10 - Information and value creation Flashcards
vertical differentiation
firms may enhance the benefit of their product for all consumers
horizontal differentiation
firms may alter certain aspects of their product so that some consumers perceive that it offers more benefits than for others
disclosure
informing consumers about product benefits –> essential for benefit strategy to succeed
certifiers
third parties disclosing products information
shopping problem
finding the goods and services that best meet the consumer’s needs
–> find the seller that offers the highest B - P
search
the process of finding the seller offering the highest B - P
sequentially
learning about one seller at a time
- costly relative to B - P as it usually involves considerable time and travel
simultaneously
learning about many products at once, gathering information about many products before deciding
- relatively low research costs compared to B - P
search good
consumers can easily compare product characteristics. search goods are often commodities, and consumers choose solely on the basis of price
(e.g., gasoline, copier and printer, batteries)
experience good
consumers cannot easily compare product characteristics and value information from others. consumers learn about quality after purchasing and using the product
(e.g., automobiles, consumer electronics, restaurants, …)
credence good
consumers cannot easily evaluate quality even after purchasing and using the product
(e.g., some auto repairs, medical services, and educational services)
unraveling
all firms, even the worst, will disclose their quality.
this would leave no room for third party certifiers
unraveling needs strong assumptions (that are often violated)
- requires sellers to cheaply and accurately assess there own quality and where they stand relative to other sellers
- if the best sellers are unaware, they may not set the unraveling in motion
- consumers have reasonable beliefs about distribution of quality
- sellers may be reluctant to disclose, if they have not previously competed on quality
when industries fail to voluntarily disclose quality, …
governments often step in. or they establish minimum quality standards through licensing
licensing
licensing sets a quality floor while also raising entry costs and protects incumbents from competition
alternatives to disclosure
- warranties
- branding
warranties
a promise to reimburse the consumers if the product fails
they also serve as a signal of quality
signal
a message that conveys information about vertical positioning
–> a signal is only informative if it is more profitable for the high quality firms to offer the signal
branding
helps consumers associate product names with product attributes
quality report card
a grade that can be used to evaluate quality (e.g., university rankings)
consumers may benefit from rankings in three ways
- consumers can more easily identify high-quality sellers
- elasticity of demand with respect to quality increases
- -> incentive for sellers to improve quality
- some consumers are willing to pay more for quality than others
- -> improve sorting by matching consumers who highly value quality to the best sellers
random noise
information/activity that confuses underlying trends
selection
if a report card depends on input from the customer, sellers may shun some customers to boost their score
multitasking (“teaching to the test”)
when efforts to promote improvements on one dimension of performance are confounded by changes in other dimensions of performance
multitasking is a potential problem whenever two things occur simultaneously
- incentive contracts/report cards are incomplete –> they don’t cover all relevant aspects of performance
- the agent has limited resources that must be allocated across tasks, where different tasks affect different aspects of performance
(these two conditions are present for nearly all experience and credence goods)
most report cards contain several different quality measures
- outcome
- process
- input
outcome
what consumers ultimately care about. specific measures to the good/services
process
does the seller use accepted practices to produce?
- useful if outcomes are hard to measure
- can promote multitasking by encouraging agents to invest in reported processes but scale back on unreported processes
- more common for services than for products
input
is labor well trained? does the seller use the latest technologies?
- useful if outcomes are hard to measure
- promote multitasking by encouraging agents to invest in the reported inputs but scale back on the unreported inputs
reasons why it makes sense to report process and input measures of quality
- outcome data may be unavailable
- it may be difficult to obtain outcome measure for a large sample (statistical imprecision)
- noisy rankings often exhibit mean reversion
- difference in outcomes across sellers may reflect differences in the customers rather than differences in seller quality
mean reversion
firms with high scores were lucky maybe as the noisiness worked in their favor –> luck tends to even out and its likely that they see their high scores “revert to the mean” in subsequent rankings
certifiers should consider using input and process measures when the following conditions hold
- process and input measures are positively linked to favorable outcomes
- it is relatively inexpensive to measure process and inputs; the same measures can be obtained from all firms
- processes and inputs are not easily manipulated through multitasking
a prospective customer who uses customer satisfaction ratings to compare sellers is necessarily relying on a noisy and possibly biased quality measure because
- different customers may use different criteria to measure quality
- customers have an incentive to exaggerate their rating to influence the average score
- customers may be reluctant to leave negative feedback
- it is unverifiable; individuals may offer feedback without having consumed the product
customer satisfaction rating may suffer from several other shortcomings
- response rates to voluntary survey are extremely low
- motivation bias
- survivor bias
motivation bias
avid fans and disgruntled customers are disproportionately likely to turn in their surveys
survivor bias
surveys of existing customers exempt customers who did not like the product and no longer use it
risk adjustment
a statistical process in which raw outcome measures are adjusted for factors that are beyond the control of the seller
composite scores
scores that summarize the information in multiple measures
- sum up/(weighted) average individual scores –> individual components need to be measured on the same numeric scale
certifiers role in vertically differentiated markets
establish and quantify the quality differences across products
certification in horizontally differentiated markets
consumers may disagree about product rankings, and a certifier who declares that a given seller is the best will be giving bad advice to many others.
