A Theory of Minimum Quality Standards: Quacks, Lemons & Licensing Revisited

Michael R. Metzger
Working Paper:

An analytical model is employed to investigate competitive markets characterized by asymmetric consumer information as to product quality. Support is found for Leland's conclusion [1979] that a "lemons market" is a general phenomenon for such markets, as well as the conclusion that a minimum quality standard mayor may not be socially desirable. These results rebut the use of a "lemons market" rationale as a single criteria for minimum quality standards and occupational licensing. Under the assumption of decreasing opportunity costs for suppliers, the analysis refutes Leland's conclusions that quality will be generally under-supplied, that output always will be over-supplied, and that licensing will always be desirable. Minimum quality standards (or licensing) self-imposed by a profession is also investigated. Finally, it is shown that minimum quality standards applied to quality-enhancing activities, such as education, mayor may not be socially desirable, even when the activity permits screening of suppliers as to innate ability.