Regulation and Responsible Innovation (with Jorge Lemus and Nicolás Figueroa).
Who should investigate potential product harms: firms through ``Responsible Innovation'' (RI) or regulators? Firms could investigate potential harms early on, using resources otherwise allocated to innovation. Regulators, by contrast, typically assess products only after they reach the market. We characterize the efficient solution and show that RI is not always efficient, that is, regulators sometimes need to bear the full burden of investigating the harm. We then examine whether the efficient solution is implementable in a dynamic game where a profit-maximizing firm chooses how much to invest in RI, and a regulator, only concerned about consumers, can levy fines, use the precautionary principle, and investigate the harm of products that are in the market. Our main insights are twofold. First, implementing efficiency requires fewer constraints on the regulator when the harm is very small or large, but more constraints when the harm is moderate. Second, efficient ex-post regulation deters firms from engaging in responsible innovation, so to encourage it, regulatory decisions must be distorted. Effective regulatory regimes must balance incentives for responsible innovation with necessary oversight.
We study a market in which the buyer has no information about product quality, while the seller has private probabilistic information about it. Buyers observe price and can procure an inspection, which provides valuable information about the good for sale. With costless inspections, there is no separating equilibrium. We then show that when information acquisition is costly, there is a separating equilibrium that satisfies the intuitive criterion, in which high prices signal high quality and furthermore, the dynamic separating equilibrium showing higher separating prices than the static one. Finally we discuss the implications of time-on-the-market on separating equilibria. Specifically, when there is only one asset on sale over both periods (therefore both price and time-on-the-market can signal quality) there is no separating equilibrium even if single-crossing is satisfied. The key to this result is that the second-period buyer cannot observe why the asset did not sell in the first period. Notably, the failure to sell can be attributed to overpricing or an unfavorable inspection outcome. Therefore the copycat behavior is more attractive to the poor-quality seller because he benefits more from an increase in buyer beliefs than his high-quality counterpart. Allowing only the first-period buyer to acquire information on quality, we show the existence of a separating equilibrium in which high prices and time-on-the-market signal high quality.