Can High Prices Ensure Product Quality when Buyers Do Not Know the Seller's Cost?
2001, Economic Inquiry
Timothy Perri, Eric Bennett Rasmusen
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.
Rasmusen, Eric Bennett and Timothy Perri (2001), "Can High Prices Ensure Product Quality when Buyers Do Not Know the Seller's Cost?," Economic Inquiry, Vol. 39, No. 4, October, 561-567.