Producer Liability and Competition Policy When Firms Are Bound by a Common Industry Reputation

Andrzej Baniak 1 , Peter Grajzl 2  and A. Joseph Guse 2
  • 1 Department of Economics, Central European University, Nador u. 9, 1051 Budapest, Hungary
  • 2 Department of Economics, The Williams School, Washington and Lee University, Lexington, VA 24450, USA
Andrzej Baniak, Peter Grajzl and A. Joseph Guse

Abstract

We contrast the laissez-faire regime with the regime of strict producer liability and draw the implications for competition policy in a setting where oligopolistic firms cannot differentiate themselves from rivals but rather are bound by a common industry reputation for product safety. We show that, first, unlike in the traditional products liability model, firms’ incentives to invest in precaution depend on market structure. Second, depending on the magnitude of expected damages awarded by the courts, laissez-faire can welfare dominate strict producer liability. Third, the relationship between social welfare and industry size, and hence the role for competition policy, depends on the institutional regime governing the industry. Under some circumstances, restricting industry size is unambiguously welfare-enhancing.

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