earlier drafts. Communicating Quality: A Unified Model of Disclosure and Signaling

Firms communicate product quality attributes to consumers through a variety of channels, such as pricing, advertising, releases of research reports and test results, or warranties and returns policies. The conceptualization of the economics of such communication is that it takes on one of two alternative forms when quality is exogenous: 1) disclosure of quality through a credible direct claim; 2) signaling of quality via producer actions that influence buyers ’ beliefs about quality. In general, these two literatures have ignored one-another. In this paper we argue that disclosure and signaling are two sides of a coin and that firms should be viewed as choosing which means of communication they will employ. Moreover, we show that integration of these two alternatives leads to a number of new implications about disclosure, signaling, firm preferences over type, and the social efficiency of the channel of communication employed. 1 A third distinct approach to unobservable quality involves the idea of a “quality-guaranteeing price ” (beginning with Klein and Leffler, 1981; see Bester, 1998, for a recent example and further references). In this literature, quality is endogenously-chosen by the firm after it posts its price. A firm that dilutes its quality will lose future sales, and a firm that charges too low a price will have an incentive to subsequently dilute quality. Understanding this, consumers will not buy at such prices. Instead, there is a threshold price that is high enough to make it optimal for the firm subsequently to provide high quality rather than to cash in now and forego future sales. Consumers will only be willing to buy at prices at or above this quality-guaranteeing price. 1