TAILIEUCHUNG - How Do Consumers Motivate Experts? Reputational Incentives in an Auto Repair Market

One might expect the e ects on buyers and suppliers to be symmetric: for both the current owner and a potential buyer of a particular used car, the increased cost of usage for the current owner of that car if he or she keeps the car will exactly equal the increased cost of usage for the potential buyer, if the two have similar driving habits. In other words, one might expect an increase in gasoline prices to reduce the willingness-to-pay for a particular car by about the same amount that it reduces a potential supplier's willingness-to-accept for that car. This would imply that the demand curve for. | How Do Consumers Motivate Experts Reputational Incentives in an Auto Repair Market Thomas N. Hubbard April 26 2001 Moral hazard exists in expert service markets because sellers have an incentive to shade their reports of buyers condition to increase the short-run demand for their services. The California vehicle emission inspection market offers a rare opportunity to examine how reputational incentives work in such a market. I show that consumers are 30 more likely to return to a firm at which they previously passed than one at which they previously failed and that demand is sensitive to firms failure rate across all consumers. These and other results suggest that demand incentives are strong in this market because consumers believe that firms differ greatly in their consumer-friendliness and are skeptical even about those they choose. Weak demand incentives in other expert service markets are not a direct consequence of moral hazard but rather its interaction with switching costs and consumers beliefs that firms are relatively homogeneous. Graduate School of Business University of Chicago and National Bureau of Economic Research. Email . I would like to thank Tim Bresnahan Judy Chevalier Andrew Dick Kevin Murdock Randy Kroszner Roger Noll Robert Porter Jean-Laurent Rosenthal Andrea Shepard Scott Stern Eric Talley Robert Topel Darrell Williams Frank Wolak many seminar participants and several anonymous referees for helpful comments. Financial support from the Lynde and Harry Bradley Foundation and an Alfred P. Sloan Doctoral Dissertation Fellowship are gratefully acknowledged. 1. Introduction Transactions involving services are not simple exchanges. Production takes place after buyers and sellers agree to the terms of trade. Moral hazard problems arise when buyers can neither perfectly observe nor costlessly verify quality. Sellers can take actions that affect the size and allocation of the gains from trade. In expert service markets

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