Abstract
Consumer purchase decisions for goods and services increasingly take place on a platform that features a vendor reputation indicator based on past consumer experience of the product quality. At the same time, there has been a growth of added certification indicators to signal other aspects of a product or its production methods, such as indicators of environmental friendliness (ecolabels). The idea is that information provided via these extra indicators function as ‘green nudges’ to persuade consumers to buy more responsible ‘low externality’ products, which would in turn put market pressure on firms to invest in more responsible production methods.
A question arises in what forms information regarding production externalities can be presented to increase the market pressure on firms to reduce them. Specifically, will any pressure on producers always have to come only from ‘activist’ consumers who are willing to pay for externality reduction, or are there ways in which firms could feel pressure to reduce externalities from all consumers?
In this project, we investigate how information regarding production externalities (ecolabels) can be presented to create market pressure on firms to reduce them. Specifically and novelly, we ask whether reducing the dimensionality of different certificates and consumer experience ratings into one rating, can result in firms feeling pressure to reduce externalities from all consumers, not just ‘activist’ consumers. We address this question in two ways.
First, we set up a theoretical model where firms privately choose current product quality and production externality level. Consumers learn about firms’ past behavior through a product quality rating and an ecolabel, or via a single rating which combines product quality and externality concerns. When consumers separately observe both a product quality rating and an externality, firms either ignore the externality dimension, or invest in externality reduction, but only sell to ‘activist’ consumers. In contrast, if the two concerns are combined into one indicator, there exists an equilibrium in which, regardless of there existing enough ‘activist’ consumers, a firm both invests in high product quality and low negative externality.
Second, we plan to test our hypotheses by running an incentivized economics laboratory experiment. In the experiment, we will create a small dynamic market setup similar to that in our theoretical model. We plan two treatments: One where consumers observe a firm’s reputation reflected in both a product quality and product externality rating, and one where the consumers observe only one combined rating to inform their choices.
We believe that results from this project will have important implications for how information to consumers can be presented in order to increase the market pressure on firms to reduce negative externalities.