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Optimal Ratings and Market Outcomes


  • Hugo Hopenhayn
  • Maryam Saeedi


This paper considers the design of an optimal rating system, in a market with adverse selection. We address two critical questions about rating design: First, given a number of categories, what are the criteria for setting the boundaries between them? Second, what are the gains from increasing the number of categories? A rating system helps reallocate sales from lower- to higher-quality producers, thus mitigating the problem of adverse selection. We focus on two main sources of market heterogeneity that determine the extent and effect of this reallocation: the distribution of firm qualities and the responsiveness of sellers' supply to prices. We provide a simple characterization for the optimal rating system as the solution to a standard k-means clustering problem, and discuss its connection to supply elasticity and the skewness of firm qualities. Our results show that a simple two-tier rating can achieve a large share of full information surplus. Additionally, we characterize the conflicting interests of consumers and producers in the design of a rating system.

Suggested Citation

  • Hugo Hopenhayn & Maryam Saeedi, 2019. "Optimal Ratings and Market Outcomes," NBER Working Papers 26221, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:26221
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    Cited by:

    1. Cieslak, Anna & Malamud, Semyon & Schrimpf, Andreas, 2021. "Optimal Transport of Information," CEPR Discussion Papers 15859, C.E.P.R. Discussion Papers.
    2. Yasui, Yuta, 2021. "Controlling Fake Reviews," MPRA Paper 108177, University Library of Munich, Germany.
    3. Semyon Malamud & Andreas Schrimpf, 2021. "Persuasion by Dimension Reduction," Swiss Finance Institute Research Paper Series 21-69, Swiss Finance Institute.
    4. Yunus C. Aybas & Eray Turkel, 2019. "Persuasion with Coarse Communication," Papers 1910.13547,, revised Sep 2022.

    More about this item

    JEL classification:

    • D21 - Microeconomics - - Production and Organizations - - - Firm Behavior: Theory
    • D47 - Microeconomics - - Market Structure, Pricing, and Design - - - Market Design
    • D60 - Microeconomics - - Welfare Economics - - - General
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms

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