The Mini-Case “Adverse Selection and Remanufactured Goods” reports that, for electronic goods sold on eBay, higher seller feedback scores reduce the price differential between new goods and remanufactured goods. Explain why this pattern is consistent with the theory of adverse selection. Would you also expect higher seller feedback to reduce the price differential between new goods and used (but not remanufactured) goods?

Adverse Selection and Remanufactured Goods

Because consumers can’t see a good before buying it over the internet, it’s easy for a shady seller to misrepresent its quality. In the worst-case lemons-market scenario, low-quality goods drive out high-quality goods.

Adverse selection concerns are particularly strong for electronic goods sold on eBay, as consumers cannot “squeeze the orange” (try the product) before purchase. That this market exists on eBay indicates sellers have found ways to signal quality. Consumers know that selling on eBay creates an enforceable contract, so sellers’ signals reduce adverse selection on eBay. A sleazy seller will have a bad reputation score (the percentage of positive ratings by past customers). 

Some sellers offer money back guarantees or warranties. Some pay extra to eBay to post photos.

One important signal is whether the good is new, remanufactured, or used. For years, manufacturers of cameras, computers, mobile phones, MP3 players, and other consumer durables have refurbished or upgraded such equipment before trying to sell it again. Even though these remanufactured products may be comparable to new ones, consumers do not perceive them that way, so they are willing to pay a premium for new items.

Neto, Bloemhof, and Corbett (2015) studied sales on eBay of three types of iPods: the Classic, the Touch, and the Nano. They found, for example, that the average price of a used iPod Nano was 65% of a new one, while a remanufactured Nano was 82% of a new one. Thus, the signal of the good’s type affects the price.

What about other signals, such as positive descriptions? Consumers view used goods as varying more in quality than remanufactured or new products: The prices of used goods have greater variance than those of new goods. As a result, quality claims may be more likely to affect the price of used goods than those of new and remanufactured goods. Neto et al. found that positive descriptions affected the price of most types of used iPods, but not new and remanufactured iPods.

Subramanian and Subramanyam (2012) studied the sales of electronic goods on eBay. They found that a higher seller feedback score reduced the price differential between new and remanufactured goods. They also discovered that consumers pay higher prices for products remanufactured by the original manufacturer or their authorized factories than for those remanufactured by third parties. Thus, a variety of signals helps reduce the adverse selection problem for used and remanufactured goods.