The problem of moral hazard is commonplace. A firm may sell an inferior product to its customers, a worker may shirk rather than learning new skills, and a credit-rating agency may give advice based on a poor model. In a repeated setting, reputational concerns can mitigate such opportunism. For example, high reputation and the ability to charge a premium price can give a firm an incentive to produce excellent products.
This project uses game theory to advance our understanding of the value of reputation, the incentives to invest in (or run down) a reputation, and the dynamics of reputation. The PIs develop a new analytical approach that promises a substantial advance on existing methods for studying these questions. The new method uses more realistic assumptions; product quality is modeled as a lagged function of past investment and product quality is imperfectly observed by consumers.
The PIs use their method to study the how reputational incentives and dynamics are determined by the ways in which consumers learn about product quality. They develop predictions about how investment in research and development creates a product life cycle.
Existing methods for modeling and analyzing reputation have been widely used across the social sciences. The new method will have significant broader impact in these same implications.
