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Asymmetric information, word-of-mouth and social networks: from the market for lemons to efficiency

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  • NAVARRO, Noemí

Abstract

I analyze a market where there is a homogeneous good, which quality is chosen, and therefore known, by a single producer. Consumers do not know the quality of the good but they use their acquaintances in order to obtain information about it. Information transmission exhibits decay and consumers assign a common initial willingness-to-pay before information transmission takes place. I define an equilibrium concept for this type of situation and characterize the set of resulting equilibria for any possible social network. The main conclusion from this characterization is that, if there is a maximal level of quality (given by technological knowledge) that can be chosen, then, the producer may choose lower levels of quality as the population of consumers is getting more internally connected, due to free-riding on information by consumers when quality levels are low. This “adverse-selection” effect vanishes if consumers are expected to coordinate on the most favorable equilibria for the producer, if there is zero initial willingness-to-pay or if there are no technological constraints.

Suggested Citation

  • NAVARRO, Noemí, 2006. "Asymmetric information, word-of-mouth and social networks: from the market for lemons to efficiency," LIDAM Discussion Papers CORE 2006002, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    • Handle: RePEc:cor:louvco:2006002
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    File URL: https://sites.uclouvain.be/core/publications/coredp/coredp2006.html
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    References listed on IDEAS

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    1. Glenn Ellison & Drew Fudenberg, 1995. "Word-of-Mouth Communication and Social Learning," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 110(1), pages 93-125.
    2. Banerjee, Abhijit & Fudenberg, Drew, 2004. "Word-of-mouth learning," Games and Economic Behavior, Elsevier, vol. 46(1), pages 1-22, January.
    3. Yann Bramoulle & Rachel Kranton, 2005. "Strategic Experimentation in Networks," NajEcon Working Paper Reviews 784828000000000417, www.najecon.org.
    4. Vettas, Nikolaos, 1997. "On the Informational Role of Quantities: Durable Goods and Consumers' Word-of-Mouth Communication," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 38(4), pages 915-944, November.
    5. Corneo, Giacomo & Jeanne, Olivier, 1999. "Segmented communication and fashionable behavior," Journal of Economic Behavior & Organization, Elsevier, vol. 39(4), pages 371-385, July.
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    Citations

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    Cited by:

    1. Navarro, Noemí, 2012. "Price and quality decisions under network effects," Journal of Mathematical Economics, Elsevier, vol. 48(5), pages 263-270.
    2. Andrea Galeotti & Sanjeev Goyal, 2009. "Influencing the influencers: a theory of strategic diffusion," RAND Journal of Economics, RAND Corporation, vol. 40(3), pages 509-532, September.
    3. Noemí Navarro, 2008. "Quality provision under referral consumption," Working Papers 2008-12, Universidad de Málaga, Department of Economic Theory, Málaga Economic Theory Research Center.
    4. Goyal, Sanjeev & Galeotti, Andrea, 2007. "A Theory of Strategic Diffusion," Coalition Theory Network Working Papers 9096, Fondazione Eni Enrico Mattei (FEEM).
    5. Alice Hsiaw, 2014. "Learning Tastes Through Social Interaction," Working Papers 1405, College of the Holy Cross, Department of Economics.
    6. Galeotti, Andrea & Goyal, Sanjeev, 2007. "A Theory of Strategic Diffusion," Economics Discussion Papers 2983, University of Essex, Department of Economics.
    7. James D. Campbell, 2015. "Localized price promotions as a quality signal in a publicly observable network," Quantitative Marketing and Economics (QME), Springer, vol. 13(1), pages 27-57, March.
    8. Hsiaw, Alice, 2014. "Learning tastes through social interaction," Journal of Economic Behavior & Organization, Elsevier, vol. 107(PA), pages 64-85.

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    More about this item

    Keywords

    networks; word-of-mouth communication; asymmetric information.;
    All these keywords.

    JEL classification:

    • D4 - Microeconomics - - Market Structure, Pricing, and Design
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • L1 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance

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