Quality Disclosure and Certification: Theory and Practice
14 Jan 2010-Journal of Economic Literature (American Economic Association)-Vol. 48, Iss: 4, pp 935-963
TL;DR: A review of the theoretical and empirical literature on quality disclosure and certification can be found in this paper, with a particular focus on healthcare, education, and finance, and the empirical review covers quality measurement, the effect of third-party disclosure on consumer choice and seller behavior as well as the economics of certifiers.
Abstract: This essay reviews the theoretical and empirical literature on quality disclosure and certification. After comparing quality disclosure with other quality assurance mechanisms and describing a brief history of quality disclosure, we address two sets of theoretical issues. First, why don't sellers voluntarily disclose through a process of "unraveling" and, given the lack of unraveling, is it desirable to mandate seller disclosure? Second, when we rely on certifiers to act as the intermediary of quality disclosure, do certifiers necessarily report unbiased and accurate information? We further review empirical evidence on these issues, with a particular focus on healthcare, education, and finance. The empirical review covers quality measurement, the effect of third-party disclosure on consumer choice and seller behavior, as well as the economics of certifiers. (JEL D18, K32, L15, M31)
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TL;DR: In this paper, the authors show that initial reports cause high-frequency "action and backsliding", but these cycles attenuate over time. And if reports are discontinued after two years, effects are relatively persistent, decaying at 10-20 percent per year.
Abstract: We document three remarkable features of the Opower program, in which social comparison-based home energy reports are repeatedly mailed to more than six million households nationwide. First, initial reports cause high-frequency “action and backsliding,” but these cycles attenuate over time. Second, if reports are discontinued after two years, effects are relatively persistent, decaying at 10–20 percent per year. Third, consumers are slow to habituate: they continue to respond to repeated treatment even after two years. We show that the previous conservative assumptions about post-intervention persistence had dramatically understated cost effectiveness and illustrate how empirical estimates can optimize program design.(JEL D12, D83, L94, Q41)
999 citations
Posted Content•
TL;DR: In this paper, the authors investigate the conventional wisdom that competition among interested parties attempting to influence a decision maker by providing verifiable information brings out all the relevant information, and they find that if the decision maker is strategically sophisticated and well informed about the relevant variables and about the preferences of the interested party or parties, competition may be unnecessary; while if the decide maker is unsophisticated or not well informed, competition is not generally sufficient.
Abstract: We investigate the conventional wisdom that competition among interested parties attempting to influence a decision maker by providing verifiable information brings out all the relevant information. We find that, if the decision maker is strategically sophisticated and well informed about the relevant variables and about the preferences of the interested party or parties, competition may be unnecessary; while if the decision maker is unsophisticated or not well informed, competition is not generally sufficient. However, if the interested parties' interests are sufficiently opposed, or if the decision maker is seeking to advance the parties' decision maker's need for prior knowledge about the relevant variables and for strategic sophistication. In other settings, only the combination of competition among information providers and a sophisticated skepticism is sufficient to allow defective decision making.
877 citations
TL;DR: The authors discusses the empirical literature on the economic consequences of disclosure and financial reporting regulation, drawing on U.S. and international evidence, highlighting the challenges with quantifying regulatory costs and benefits, measuring disclosure and reporting outcomes, and drawing causal inferences from regulatory studies.
Abstract: This paper discusses the empirical literature on the economic consequences of disclosure and financial reporting regulation, drawing on U.S. and international evidence. Given the policy relevance of research on regulation, we highlight the challenges with (1) quantifying regulatory costs and benefits, (2) measuring disclosure and reporting outcomes, and (3) drawing causal inferences from regulatory studies. Next, we discuss empirical studies that link disclosure and reporting activities to firm-specific and market-wide economic outcomes. Understanding these links is important when evaluating regulation. We then synthesize the empirical evidence on the economic effects of disclosure regulation and reporting standards, including the evidence on International Financial Reporting Standards (IFRS) adoption. Several important conclusions emerge. We generally lack evidence on market-wide effects and externalities from regulation, yet such evidence is central to the economic justification of regulation. Moreover, evidence on causal effects of disclosure and reporting regulation is still relatively rare. We also lack evidence on the real effects of such regulation. These limitations provide many research opportunities. We conclude with several specific suggestions for future research.
779 citations
TL;DR: The authors discusses the empirical literature on the economic consequences of disclosure and financial reporting regulation (including IFRS adoption), drawing on U.S. and international evidence, highlighting the challenges with quantifying regulatory costs and benefits, measuring disclosure and reporting outcomes, and drawing causal inferences from regulatory studies.
Abstract: This paper discusses the empirical literature on the economic consequences of disclosure and financial reporting regulation (including IFRS adoption), drawing on U.S. and international evidence. Given the policy relevance of research on regulation, we highlight the challenges with: (i) quantifying regulatory costs and benefits, (ii) measuring disclosure and reporting outcomes, and (iii) drawing causal inferences from regulatory studies. Next, we discuss empirical studies that link disclosure and reporting activities to firm-specific and market-wide economic outcomes. Understanding these links is important when evaluating regulation. We then synthesize the empirical evidence on the economic effects of disclosure regulation and reporting standards, including the evidence on IFRS adoption. Several important conclusions emerge. We generally lack evidence on market-wide effects and externalities from regulation, yet such evidence is central to the economic justification of regulation. Moreover, evidence on causal effects of disclosure and reporting regulation is still relatively rare. We also lack evidence on the real effects of such regulation. These limitations provide many research opportunities. We conclude with several specific suggestions for future research.
537 citations
Cites background from "Quality Disclosure and Certificatio..."
...It is therefore important 60 See also the review of the literature on quality disclosure by Dranove and Jin (2010)....
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...57 For a related review on quality disclosure and certification, see Dranove and Jin (2010)....
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TL;DR: The authors provide a selective survey of empirical evidence on the effects as well as the drivers of persuasive communication of persuaders directed at consumers, voters, donors, and investors, and organize their review around four questions: to what extent does persuasion affect the behavior of each of these groups? Second, what models best capture the response to persuasive communication? Third, what are persuaders' incentives, and what limits their ability to distort communications? Finally, what evidence exists on the way persuasion affects equilibrium outcomes in economics and politics?
Abstract: We provide a selective survey of empirical evidence on the effects as well as the drivers of persuasive communication. We consider persuasion directed at consumers, voters, donors, and investors. We organize our review around four questions. First, to what extent does persuasion affect the behavior of each of these groups? Second, what models best capture the response to persuasive communication? Third, what are persuaders' incentives, and what limits their ability to distort communications? Finally, what evidence exists on the way persuasion affects equilibrium outcomes in economics and politics?
478 citations
References
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TL;DR: In this paper, the authors present a struggling attempt to give structure to the statement: "Business in under-developed countries is difficult"; in particular, a structure is given for determining the economic costs of dishonesty.
Abstract: This paper relates quality and uncertainty. The existence of goods of many grades poses interesting and important problems for the theory of markets. On the one hand, the interaction of quality differences and uncertainty may explain important institutions of the labor market. On the other hand, this paper presents a struggling attempt to give structure to the statement: “Business in under-developed countries is difficult”; in particular, a structure is given for determining the economic costs of dishonesty. Additional applications of the theory include comments on the structure of money markets, on the notion of “insurability,” on the liquidity of durables, and on brand-name goods.
17,764 citations
Book•
01 Jan 1971
TL;DR: In this article, the authors argue that regulation is acquired by the industry and is designed and operated primarily for its benefit, and that the state has one basic resource which in pure principle is not shared with even the mightiest of its citizens.
Abstract: The state—the machinery and power of the state—is a potential resource or threat to every industry in the society. With its power to prohibit or compel, to take or give money, the state can and does selectively help or hurt a vast number of industries. Regulation may be actively sought by an industry, or it may be thrust upon it. A central thesis of this paper is that, as a rule, regulation is acquired by the industry and is designed and operated primarily for its benefit. The state has one basic resource which in pure principle is not shared with even the mightiest of its citizens: the power to coerce. The state can seize money by the only method which is permitted by the laws of a civilized society, by taxation. The state can ordain the physical movements of resources and the economic decisions of households and firms without their consent.
7,956 citations
TL;DR: In this article, a principal-agent model that can explain why employment is sometimes superior to independent contracting even when there are no productive advantages to specific physical or human capital and no financial market imperfections to limit the agent's borrowings is presented.
Abstract: Introduction In the standard economic treatment of the principal–agent problem, compensation systems serve the dual function of allocating risks and rewarding productive work. A tension between these two functions arises when the agent is risk averse, for providing the agent with effective work incentives often forces him to bear unwanted risk. Existing formal models that have analyzed this tension, however, have produced only limited results. It remains a puzzle for this theory that employment contracts so often specify fixed wages and more generally that incentives within firms appear to be so muted, especially compared to those of the market. Also, the models have remained too intractable to effectively address broader organizational issues such as asset ownership, job design, and allocation of authority. In this article, we will analyze a principal–agent model that (i) can account for paying fixed wages even when good, objective output measures are available and agents are highly responsive to incentive pay; (ii) can make recommendations and predictions about ownership patterns even when contracts can take full account of all observable variables and court enforcement is perfect; (iii) can explain why employment is sometimes superior to independent contracting even when there are no productive advantages to specific physical or human capital and no financial market imperfections to limit the agent's borrowings; (iv) can explain bureaucratic constraints; and (v) can shed light on how tasks get allocated to different jobs.
5,678 citations
"Quality Disclosure and Certificatio..." refers background in this paper
...Optimal disclosure design will likely borrow from the literature on multitasking (Holmstrom and Milgrom, 1991)....
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TL;DR: In this article, a notion of "favorableness" of news is introduced, characterized, and applied to four simple models: the arrival of good news about a firm's prospects always causes its share price to rise, more favorable evidence about an agent's effort leads the principal to pay a larger bonus, buyers expect that any product information withheld by a salesman is unfavorable to his product, and bidders figure that low bids by their competitors signal a low value for the object being sold.
Abstract: This is an article about modeling methods in information economics. A notion of "favorableness" of news is introduced, characterized, and applied to four simple models. In the equilibria of these models, (1) the arrival of good news about a firm's prospects always causes its share price to rise, (2) more favorable evidence about an agent's effort leads the principal to pay a larger bonus, (3) buyers expect that any product information withheld by a salesman is unfavorable to his product, and (4) bidders figure that low bids by their competitors signal a low value for the object being sold.
3,092 citations
"Quality Disclosure and Certificatio..." refers background in this paper
...Failure of unraveling: buyer-side reasons Fishman and Hagerty (2003); Hirshleifer, Lim, and Teoh (2004); Hotz and Xiao (2009); Milgrom and Roberts (1986); Schwartz (2008); Stivers (2004)...
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...The counter-intuitive relationship between competition and disclosure is not necessarily surprising; theorists have argued that zero-cost disclosure should unravel in a monopoly market (Grossman, 1981; Milgrom, 1981) but may not unravel in a differentiated duopoly (Board, 2008)....
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...…while “average” hospitals remain silent.16 Though Jovanovic focuses on a market with a large number of sellers, it is easy to extend the logic to monopoly as Grossman (1981) and Milgrom (1981) because disclosure incentives are driven by skeptical consumers instead of competition among sellers....
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...According to Grossman (1981) and Milgrom (1981), if a seller possesses better information about product quality than consumers do and there is zero cost to verifiably disclose it, sellers will always disclose....
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Posted Content•
TL;DR: In this paper, the authors examine some of the forces that can lead to herd behavior in investment and discuss applications of the model to corporate investment, the stock market, and decision making within firms.
Abstract: This paper examines some of the forces that can lead to herd behavior in investment. Under certain circumstances, managers simply mimic the investment decisions of other managers, ignoring substantive private information. Although this behavior is inefficient from a social standpoint, it can be rational from the perspective of managers who are concerned about their reputations in the labor market. We discuss applications of the model to corporate investment, the stock market, and decision making within firms. (JEL 026, 522) A basic tenet of classical economic theory is that investment decisions reflect agents' rationally formed expectations; decisions are made using all available information in an efficient manner. A contrasting view is that investment is also driven by group psychology, which weakens the link between information and market outcomes. In The General Theory, John Maynard Keynes (1936, pp. 157-58) expresses skepticism about the ability and inclination of "long-term investors" to buck market trends and ensure efficient investment. In his view, investors may be reluctant to act according to their own information and beliefs, fearing that their contrarian behavior will damage their reputations as sensible decision makers:
2,676 citations
"Quality Disclosure and Certificatio..." refers background in this paper
...For example, a financial analyst may bias a stock analysis due to career or reputation concerns (Scharfstein and Stein 1990, Ottaviani and Sorensen 2006)....
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