Reputation in Electronic Markets: An Experimental Study

Information asymmetries, proprietary knowledge that one party in a trade holds over another party, in electronic markets might cause a loss in market efficiency and market failure. Reputation mechanisms may provide a means to reduce the effects of information asymmetry and prevent possible market failure. Feedback rating systems are among potential mechanisms to develop reputations. They are often used in naturalistic environment electronic market studies. Reputation mechanisms are difficult to assess, however, in naturalistic research settings since the researcher cannot control the many variables of interest. To control the variables, this study used an experimental research setting. The setting enabled buyer and seller values to be controlled to study the impact of reputation mechanisms on market efficiency and price premiums. A theory from economics, the induced value theory, was used to modify subject preferences through the use of a reward medium. The experimental market was implemented in a classroom environment patterned on Holt\u27s (1999) design. University students accessed a Website that enabled a fictitious market in which the students acted as buyers and sellers of a fictitious product. The product is valued with a fictitious currency which has no real-world value. This allows for values to be induced. Two market control conditions were established, a full information near 100% efficient condition, which is the `ceiling\u27 expectation, and a fairly low efficient condition in which no seller or product grade information was available to buyers, is the `floor\u27 or Lemons condition. Two treatments, `cheaptalk\u27, where sellers can make unverifiable product claims, and `feedback\u27, where seller identity and historical ratings are available to buyers, were tested. The impact of asymmetric information on market efficiency was evaluated, as was the impact of a feedback rating mechanism on enhancing market efficiency. Analysis of the experiment results indicate that the treatments can be ordered as: Full Information-Feedback-Cheaptalk-Lemons, with regard to the affect of information on market efficiency