Impact of minimum quality standards: With a case study of the silk mark; Minimum quality standards?imposition and impact with a study on impact of silk mark on silk retail

Abstract

Minimum quality standards are introduced in various markets for different reasons and with varying implications. In general, the motives behind introduction of minimum quality standards include externalities or paternalistic reasons and they are introduced to ensure that better quality is consumed by the users. However, whether minimum quality standards or any similar regulation like licensing etc actually achieve this elevation in quality is debatable. Proponents against minimum quality standards argue that because of the imposition of minimum quality standards, the average price prevalent in the market goes up which a) drives out the low quality producers and b) decreases market participation by driving out those who cannot pay for the increased quality; also with increased prices, the average demand for goods is stated to go down. In the following work, we develop a framework to study and predict the implication of minimum quality standards imposition under various scenarios. The framework is designed to account for the variety in market structure (from perfect markets to monopolistic competition to pure monopoly), the nature of demand for the product (elastic vs inelastic), the nature and composition of production costs (opportunity costs of quality) and also the nature of quality standards imposed. Though ample research has been conducted on the nature of impact of minimum quality standards, there seem to be certain contradictions in the final assessment of these research efforts. This can be explained by the fact that these research efforts have studied different market structures and varying nature of opportunity costs of quality. However, what has been missing is a comprehensive framework which can be applied to study the likely impact of minimum quality standards across industries. This framework should be able to predict the favorable conditions for implementing minimum quality standards. Also the nature of minimum quality standards (MQS) and their deviation from the prevalent standards in the market should be highlighted by such a framework. The work builds up on previous work done by Leland1, Shapiro2, Ulrich Lehmann? Grube3 and Ronnen4. It, in a way, builds on the mathematical model stated by Leland (and repeated again by Ronnen) and constructs a wider framework to account for the final results of all these models. The model is built to serve as a guide for regulators while assessing the likely impact of minimum quality standards within their industries. Leland, in his work on minimum quality standards, talks about the costs of informational asymmetry and the deterioration of quality (“Market for Lemons”) in such a scenario. He considers the suppliers as price takers (perfect competition scenario but with informational asymmetries) who are several in number and thus even if a firm raises the quality of its produce, the impact on average quality and average price levels prevalent in the market is negligible and thus the consumers are unable to appreciate the increase in quality and thus no premium can be commanded in such a scenario. Hence the incentive to increase quality is very limited. In such conditions, with increasing costs of quality (C’(q) > 0), open markets with asymmetric information will underprovide quality relative to what is socially optimal (Lemons problem). Ronnen, on the other hand, considers the oligopolistic setup for his study of minimum quality standards. He considers the impact of costs of quality on the general quality levels in the market. He allows the individual players to vary their costs commensurate with quality they offer and competition they face. Finally, he goes on to prove that in the given scenario, low quality producers benefit while high quality sellers face increased price competition. In the following work, these models have been built upon and consolidated into a framework with slight modifications to the original mathematical models. The framework is structured like a flowchart where the analyst is expected to decide upon the nature of various factors in the industry on which the minimum quality standards are sought to be imposed.