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Can High Prices Ensure Product Quality when Buyers Do Not Know the Sellers' Cost?

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  • Rasmusen, Eric B
  • Perri, Timothy J

Abstract

The 1981 Klein-Leffler model of product quality does not explain why high-quality firms would dissipate the rents they earn from quality-assuring price premia, and it relies on consumers knowing the cost functions of firms. In the present article, consumers do not know any firm's cost of producing quality goods, so firms with a low cost of producing high quality engage in conspicuous spending to demonstrate they earn a profitable mark-up over cost. Complete rent dissipation does occur if such firms have the same cost of producing low-quality items as other firms that are worse at producing high quality. Copyright 2001 by Oxford University Press.

Suggested Citation

  • Rasmusen, Eric B & Perri, Timothy J, 2001. "Can High Prices Ensure Product Quality when Buyers Do Not Know the Sellers' Cost?," Economic Inquiry, Western Economic Association International, vol. 39(4), pages 561-567, October.
    • Handle: RePEc:oup:ecinqu:v:39:y:2001:i:4:p:561-67
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    References listed on IDEAS

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    1. Breen, Denis A, 1977. "The Monopoly Value of Household-Goods Carrier Operating Certificates," Journal of Law and Economics, University of Chicago Press, vol. 20(1), pages 153-185, April.
    2. Klein, Benjamin & Leffler, Keith B, 1981. "The Role of Market Forces in Assuring Contractual Performance," Journal of Political Economy, University of Chicago Press, vol. 89(4), pages 615-641, August.
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    Cited by:

    1. Klerman, Daniel & de Figueiredo, Miguel F.P., 2021. "Reputational economies of scale," International Review of Law and Economics, Elsevier, vol. 65(C).
    2. Eric Rasmusen, 2007. "A Reputation Model of Quality in North-South Trade," Working Papers 2007-06, Indiana University, Kelley School of Business, Department of Business Economics and Public Policy.
    3. Rasmusen, Eric, 2017. "A model of trust in quality and North–South trade," Research in Economics, Elsevier, vol. 71(1), pages 159-170.

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    More about this item

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • L15 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Information and Product Quality

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