Quality Provision in the Presence of a Biased Intermediary
47 Pages Posted: 9 Oct 2014
Date Written: October 1, 2014
In many industries, consumers rely on recommendations by an intermediary when choosing between competing products. In this paper, we look at how the existence of contracts between firms and intermediaries affects the quality of the advice received by consumers, and firms' incentives to invest in improving the quality of their products. We consider a model with one intermediary and two firms who decide how much to invest. Under a variety of contractual environments (vertical integration, ex post endorsement) we show that, even though the intermediary tends to endorse the best firm, contractual endorsement distorts firms' incentives to invest. Quality can then decrease or increase compared to an objective benchmark. We contrast our approach to a setup with fixed qualities and endogenous prices, under which contractual endorsement hurts consumers.
Keywords: intermediary, quality, bias
JEL Classification: L1, L4, L86
Suggested Citation: Suggested Citation