Abstract
We study a setting in which firms produce items whose quality is ex-ante unobservable, but learned by customers over time. Firms take customer learning into account when making production decisions. We focus on the effect that the review process has on product quality. Specifically, we compare equilibrium quality levels in the setting described above to the quality that would be produced if customers could observe item quality directly. We find that in many cases, customers are better off when relying on reviews, i.e. better off in the world where they have less information. The idea behind our result is that the risk of losing future profits due to bad initial reviews may drive firms to produce an exceptional product. This intuitive insight contrasts sharply with much of the previous academic literature on the subject.
This is a preview of subscription content, log in via an institution.
Buying options
Tax calculation will be finalised at checkout
Purchases are for personal use only
Learn about institutional subscriptionsPreview
Unable to display preview. Download preview PDF.
References
Allen, F.: Reputation and product quality. RAND Journal of Economics 15(3), 311–327 (1984), http://EconPapers.repec.org/RePEc:rje:randje:v:15:y:1984:i:autumn:p:311-327
Banerjee, A.V.: A simple model of herd behavior. The Quarterly Journal of Economics 107(3), 797–817 (1992), http://qje.oxfordjournals.org/content/107/3/797.abstract , doi:10.2307/2118364
Bar-Isaac, H.: Reputation and survival: Learning in a dynamic signalling model. The Review of Economic Studies 70(2), 231–251 (2003), http://restud.oxfordjournals.org/content/70/2/231.abstract , doi:10.1111/1467-937X.00243
Bikhchandani, S., Hirshleifer, D., Welch, I.: Learning from the behavior of others: Conformity, fads, and informational cascades. Journal of Economic Perspectives 12(3), 151–170 (1998), http://ideas.repec.org/a/aea/jecper/v12y1998i3p151-70.html
Bose, S., Orosel, G., Ottaviani, M., Vesterlund, L.: Monopoly pricing in the binary herding model. Economic Theory 37(2), 203–241 (2008), http://www.jstor.org/stable/40282924 ISSN 09382259
Cooper, R., Ross, T.W.: Prices, product qualities and asymmetric information: The competitive case. Review of Economic Studies 51(2), 197–207 (1984), http://ideas.repec.org/a/bla/restud/v51y1984i2p197-207.html
Fudenberg, D., Maskin, E.: The folk theorem in repeated games with discounting or with incomplete information. Econometrica 54(3), 533–554 (1986), http://www.jstor.org/stable/1911307 ISSN 00129682
Fudenberg, D., Levine, D., Maskin, E.: The folk theorem with imperfect public information. Econometrica 62(5), 997–1039 (1994), http://www.jstor.org/stable/2951505 ISSN 00129682
Hörner, J.: Reputation and competition. American Economic Review 92(3), 644–663 (2002), http://ideas.repec.org/a/aea/aecrev/v92y2002i3p644-663.html
Ifrach, B., Maglaras, C., Scarsini, M.: Monopoly pricing in the presence of social learning. Working Papers 12-01, NET Institute (August 2012), http://ideas.repec.org/p/net/wpaper/1201.html
Luca, M.: Reviews, reputation, and revenue: The case of yelp. com. Com (September 16, 2011). Harvard Business School Working Paper (12-016) (2011), http://hbswk.hbs.edu/item/6833.html
Rogerson, W.P.: Reputation and product quality. The Bell Journal of Economics 14(2), 508–516 (1983), http://www.jstor.org/stable/3003651 ISSN 0361915X
Rubinstein, A.: Equilibrium in supergames with the overtaking criterion. Journal of Economic Theory 21(1), 1–9 (1979), http://ideas.repec.org/a/eee/jetheo/v21y1979i1p1-9.html
Shapiro, C.: Consumer information, product quality, and seller reputation. The Bell Journal of Economics 13(1), 20–35 (1982), http://www.jstor.org/stable/3003427 ISSN 0361915X
Smallwood, D.E., Conlisk, J.: Product quality in markets where consumers are imperfectly informed. The Quarterly Journal of Economics 93(1), 1–23 (1979), http://www.jstor.org/stable/1882595 ISSN 00335533
Spence, M.: Job market signaling. The Quarterly Journal of Economics 87(3), 355–374 (1973), http://www.jstor.org/stable/1882010 ISSN 00335533
Wehrum, K.: How businesses can respond to criticism on yelp (June 2009), http://www.inc.com/magazine/20090601/how-businesses-can-respond-to-criticism-on-yelp.html
Wolinsky, A.: Prices as signals of product quality. The Review of Economic Studies 50(4), 647–658 (1983), http://www.jstor.org/stable/2297767 ISSN 00346527
Author information
Authors and Affiliations
Editor information
Editors and Affiliations
Rights and permissions
Copyright information
© 2013 Springer-Verlag Berlin Heidelberg
About this paper
Cite this paper
Arnosti, N., Russo, D. (2013). Welfare-Improving Cascades and the Effect of Noisy Reviews. In: Chen, Y., Immorlica, N. (eds) Web and Internet Economics. WINE 2013. Lecture Notes in Computer Science, vol 8289. Springer, Berlin, Heidelberg. https://doi.org/10.1007/978-3-642-45046-4_33
Download citation
DOI: https://doi.org/10.1007/978-3-642-45046-4_33
Publisher Name: Springer, Berlin, Heidelberg
Print ISBN: 978-3-642-45045-7
Online ISBN: 978-3-642-45046-4
eBook Packages: Computer ScienceComputer Science (R0)