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Verification In Contracts With Random Changes In Quality

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  • Dimitri, Carolyn
  • Lichtenberg, Erik

Abstract

Many goods and services are subject to random changes in quality during the time between sale and delivery, resulting in markets characterized by lemons-market equilibria. We examine two forms of costly verification, ex post inspection and ex ante certification. In equilibrium, ex post verification is used to verify buyers' reports of low quality, while ex ante certification is used to verify sellers' shipments of high quality. Ex post inspection allows buyers to earn rents; in some circumstances, ex ante certification allows sellers to earn rents. One would expect buyers to prefer ex post inspection while sellers prefer ex ante certification.

Suggested Citation

  • Dimitri, Carolyn & Lichtenberg, Erik, 2000. "Verification In Contracts With Random Changes In Quality," Working Papers 28565, University of Maryland, Department of Agricultural and Resource Economics.
  • Handle: RePEc:ags:umdrwp:28565
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    File URL: http://purl.umn.edu/28565
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    References listed on IDEAS

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    1. De, Sankar & Nabar, Prafulla, 1991. "Economic implications of imperfect quality certification," Economics Letters, Elsevier, vol. 37(4), pages 333-337, December.
    2. Choe, Chongwoo, 1998. "Contract design and costly verification games," Journal of Economic Behavior & Organization, Elsevier, vol. 34(2), pages 327-340, February.
    3. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
    4. George A. Akerlof, 1970. "The Market for "Lemons": Quality Uncertainty and the Market Mechanism," The Quarterly Journal of Economics, Oxford University Press, vol. 84(3), pages 488-500.
    5. Mason, Charles F & Sterbenz, Frederic P, 1994. "Imperfect Product Testing and Market Size," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 35(1), pages 61-86, February.
    6. Reinganum, Jennifer F. & Wilde, Louis L., 1985. "Income tax compliance in a principal-agent framework," Journal of Public Economics, Elsevier, vol. 26(1), pages 1-18, February.
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    Keywords

    Marketing;

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