The Certification Paradox

Forthcoming, Cambridge Handbook of Technical Standardization Law, Vol. 2: Administrative Law, Trade, Privacy, Tort, Copyright and Trademark (Jorge L. Contreras, ed., Cambridge University Press, 2019)

USC CLASS Research Paper No. CLASS 18-16

USC Law Legal Studies Paper No. 18-19

20 Pages Posted: 11 Jul 2018

Date Written: July 11, 2018

Abstract

It is commonly observed that certification intermediaries mitigate informational asymmetries by “lending” reputational capital to support transacting parties’ quality commitments. However, this proposition is challenged by cases in which well-established intermediaries have failed to detect fraud, misrepresentation and other misbehavior. The “certification paradox” provides a more nuanced account that anticipates both the general success, and periodic failure, of certification intermediaries. Transacting parties minimize search and evaluation costs by using a small number of certification intermediaries with large stocks of reputational capital. Incumbent certifiers are substantially protected by entrants’ high costs of accumulating sufficient reputational capital and users’ high costs of switching to new certifiers. Incumbent certifiers have incentives to preserve reputational capital by generally maintaining investments in informational accuracy but, given the limited threats of competitive entry and user defection, to periodically save on costs by reducing certification effort. At least historically, certifiers have sought to commit against opportunistic reductions in informational accuracy by adopting non-profit, partnership and other “constrained” organizational forms that cap the gains from shirking on certification effort. This organizational prophylactic against certification failure may outperform direct regulatory interventions, which are liable to overestimate the demand for informational accuracy or erode the market rents that support certifiers’ incentives generally to maintain informational accuracy.

Suggested Citation

Barnett, Jonathan, The Certification Paradox (July 11, 2018). Forthcoming, Cambridge Handbook of Technical Standardization Law, Vol. 2: Administrative Law, Trade, Privacy, Tort, Copyright and Trademark (Jorge L. Contreras, ed., Cambridge University Press, 2019); USC CLASS Research Paper No. CLASS 18-16; USC Law Legal Studies Paper No. 18-19. Available at SSRN: https://ssrn.com/abstract=3212074

Jonathan Barnett (Contact Author)

USC Gould School of Law ( email )

699 Exposition Boulevard
Los Angeles, CA 90089
United States

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