Approval regulation and endogenous consumer confidence: Theory and analogies to licensing, safety, and financial regulation
Version of Record online: 22 NOV 2010
© 2010 Blackwell Publishing Asia Pty Ltd
Regulation & Governance
Volume 4, Issue 4, pages 383–407, December 2010
How to Cite
Carpenter, D., Grimmer, J. and Lomazoff, E. (2010), Approval regulation and endogenous consumer confidence: Theory and analogies to licensing, safety, and financial regulation. Regulation & Governance, 4: 383–407. doi: 10.1111/j.1748-5991.2010.01091.x
- Issue online: 22 NOV 2010
- Version of Record online: 22 NOV 2010
- Accepted for publication 26 September 2010.
- approval regulation;
- safety regulation;
- financial regulation
Safety regulation – in the form of pre-market approval, licensure, screening, and product entry limitations – governs numerous market realms, including consumer finance. In this article, we ask whether the effects of safety regulation go beyond safety and affect consumers' beliefs about the distribution of products they can use. We model “approval regulation,” where a government regulator must approve the market entry of a product based upon observable, unbiased, and non-anticipable experiments. We show that even if regulator and firm disagree about only quality standards, the disagreement induces the firm to provide more information about its product than it would in the absence of regulation. Put differently, purely first-order disagreements in regulation generate second-order consequences (more certainty about product quality). These second-order consequences of regulation are sufficient to generate first-order effects among end-users (more consumption of superior products), even when users are risk-neutral. In other words, even if approval regulation produces little or no improvement in safety or quality, it still aggregates information useful to “downstream” product users; these users will exhibit higher consumption and will more readily switch to superior products. In contrast with libertarian analyses of entry regulation and licensure, the model predicts that entry restrictions may be associated with greater product or service utilization (consumption) as well as with greater price sensitivity among consumers. Because contemporary cost–benefit analyses ignore these second-order effects, they are unlikely to capture the possible confidence effects of approval regulation.