Privacy and Quality

This paper analyzes the effects of a privacy regulation that caps the level of data disclosure on investment in quality and social welfare. We develop a model in which a monopolist offers a service to consumers for free, and derives revenues from disclosing user data to third parties. Consumers choose whether to use the service and how much information to provide. We find that when the market is fully covered, a disclosure cap set prior to the firm's investment decision (an ex ante cap) always decreases quality level, but is socially desirable if quality and information are not strong complements from consumers' perspective. When the market is partially covered, quality may increase under an ex ante cap and, setting a cap may be socially desirable even when quality and information are strongly complementary. Finally, we extend our analysis to scenarios involving heterogeneous third-party data buyers, a consumer-surplus-maximizing regulator and the regulation of disclosure ex post.