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Crespi paper 03-65

Some economic implications of public labeling.

John M. Crespi

Department of Agricultural Economics Kansas State University

Stephan Marette

Institut National de la Recherche Agronomique. ? D?partement d?Economie-Grignon and THEMA-Paris X- Nanterre, France

John Crespi, Kansas State University, Department of Agricultural Economics, 342 Waters Hall, Manhattan, Kansas 66506-4011, USA. ? Phone: 785-532-6702, Fax: 785-532-6925, email: ? St?phan Marette, INRA ESR, BP01, 78850, Grignon, France. ? Phone 33-1-30 81 53 36, Fax: 33-1-30 81 53 68, email:

Some economic implications of public labeling.


This article discusses economic issues related to public labeling. ? The main contributions in both the empirical and theoretical literatures are presented in order to motivate responses to the following questions. ? First, when should a regulator promote public labeling? ? And, second, what are the limits to and the possible market distortions from public labeling?

Keywords: Labeling, Regulation, Product Differentiation.

Some economic implications of public labeling


Today?s consumers are faced with a plethora of food certification labels concerning safety, nutrition, characteristics, geographic origin, and organic status, just to name a few. ? There are eco-labels to identify green products, labels proclaiming that a product is ?cruelty free,? labels indicating whether milk comes from cows without the BST hormone, and there is increased debate over whether to affix labels to foods that have been irradiated, or processed from inputs using genetically modified organisms (GMO). ? As an inspection seal of a product?s characteristics, third-party certification insures (to some extent) the credibility of the information, namely that a labeled product conforms to some standardized principle. ? Governmental grading and inspection encompass both voluntary and mandatory certification labels. ? In the U.S. alone, there is a great diversity of grading and inspection services offered by such public agencies as the Food Safety and Inspection Service, the Agricultural Marketing Service, and the Food and Drug Administration.

The public labeling (defined and/or organized by some regulatory authority) that we concern ourselves with in this article includes either of two aspects: ( i ) when a public agency directly controls the entire labeling process and ( ii ) when private, third-party middlemen (or producer associations) certify those goods that meet the particular specifications defined by a regulator. ???

Arrow et al . (1996) show how economic arguments may be used to inform one?s rationale when using a cost-benefit analysis. ? Taking their premise as our cue, we argue that there are important economic considerations to any discussion of public policy on food labeling and although the issues are complicated, there is already much economic guidance that can be given. ? From a policy perspective, this paper seeks to address the following questions. ? First, when should a regulator promote public labeling? ? Second, if a labeling program is deemed necessary, what will be the limits to and the market distortions from such a policy? ? For each issue, we present the main (and latest) contributions in both the empirical and theoretical literatures, so as to provide policy makers with resources to help inform their decisions. ? It is important to keep in mind when reviewing this literature that, although a label is proposed as a tool for mitigating certain market failures that have resulted from imperfect information (Akerlof, 1970), the labeling itself may generate other distortions that can countermand any positive effect coming from the added information. ? After reviewing this literature, we expound on a point that we feel has been overlooked, namely the op timal way to finance labeling. ? In other words, once the decision to label a good has been made, who should pay for it? ? All of these questions are crucial for developing a complete cost-benefit analysis prior to the imposition of a labeling program. ?? At this juncture in the debate over labeling, we feel that is important for economists to bring their knowledge to the fore. ?

1. Which attribute to signal? ?

Diverse characteristi cs mean diverse labels

Before examining these questions, a classification of different food product characteristics will be useful. ? Although the types of characteristics that may be labeled are broad, all characteristics can be organized under two categories reflecting consumers? preferences: vertical and horizontal product differentiation. ? Under vertical differentiation, if products of differing quality are offered at the same price, all consumers will buy that product with the highest perceived level of quality. ? Food safety and product nutrition belong to this category as no rational person would knowingly choose a safe product over an unsafe product if the price were the same. ? The French ?Label Rouge? is a classic example of a signal for poultry quality under a vertical differentiation framework (M?nard, 1996; Westgren, 1999).

Other characteristics may be represented under, so called, horizontal differentiation. ? Under horizontal differentiation, if products with different characteristics are offered at the same price, consumers will choose among the goods according to their individual preferences for the various characteristics inherent in the goods. ? For example, wines have such a diversity of tastes that even if a Chardonay and a Cabernet were offered at the same price, there would still be a demand for both wines. ? In Europe, labels proclaiming Protected Designation of Origin (PDO) and Protected Geographical Indication (PGI) link products to their geographic origin, thereby promoting a specific taste or quality linked to a region (EEC, 1992) and consumers react to these labels based upon their preferences for regional characteristics.

Some characteristics need not be reflected in the physical characteristics of a co mmodity, they may also reflect processes or conditions of production that, in and of themselves, impart value to the consumer. ? This is the case for the ethical characteristics embodied in a ?cruelty free? production processes (Blandford and Fulponi, 1999), or green characteristics (Kirchhoff, 2000). ? As we discuss in the next section, these characteristics are much harder to evaluate because discerning these characteristics is nearly impossible without a credible signal.

In reality, most products contain a multitude of characteristics, which raises the issue of how specific a label must be in order to be effective. ? Consider the case of organic foods. ? What constitutes an ?organic food? has been very difficult to define (Browne et al. , 2000). ? The United States Department of Agriculture?s new guidelines on organic food certification came after years of discussion with industry groups as to what characteristics could be considered organic. ? The new regulations prevent organic producers from using irradiation to decontaminate products, sewage sludge as fertilizer, and genetically modified ingredients (USDA, 2000), although some had argued that these techniques did not affect ?organic? production since the foods were not produced using conventional, chemical fertilizers or pesticides. ? Because such characteristics are hard for consumers to detect, credible third-party certification will be necessary to ensure the validity of the program.

For food safety and other risks, public intervention is generally crucial in choosing among different proposals that are meant to reassure consumers or restore confidence (Henson and Caswell, 1999). ? When human health is at stake, public intervention often favors command and control instruments such as Minimum Safety Standards (MSS) or the threat of litigation. ? MSS can be an efficient policy tool because it simply eliminates those products that do not comply with certain minimum requirements. ? In other cases, rather simple information notices that allow consumers to make informed choices may be preferable. ? When risk is deemed to be small and/or non lethal, giving consumers the choice among different levels of risk at different prices may be economically efficient (Beales et al., 1981). ? Labeling thus insures product diversity and freedom of choice, as some consumers prefer buying a risky product at a lower price than a higher priced but less risky product. ? As Golan and Kuchler (1999, p. 1187) point out, ?People may also be less willing to accept involuntary risk than risk that is voluntarily assumed.?

A regulator is useful in setting up a common signal wit h a clear specification for producers and consumers (Crampes and Hollander, 1995). ? Carpentier et al. (2002) shows the drawbacks that arise from unclear policies in the case of attributes for pork in France. ? Ethical and green characteristics necessitate not only some sort of certification, but also a clear definition of the characteristic in order to persuade consumers (Teisl et al., 1999). ? Such a need for clarity may be brought about by a consumer education program undertaken either by the public or by the interested firm provided that the complementary label or signal is seen as credible. ? Public control over such certification is important so as to avoid misleading ?green? labels (Hussain, 2000) or eco-label proliferation by private institutions (Ibanez, 1998; Lohr, 1998). ? For green products, consumers may display asymmetric preferences due to inadequate information coming from label proliferation. ? For GMOs and non-GMOs, product diversity is socially optimal and facilitated by labeling, with two possible types of message, namely this product ?does contain? or ?does not contain? GMOs (Caswell, 2000; Runge and Jackson, 1999; Crespi and Marette, 2003). ? In brief, the regulator must maintain a clear definition for common labels or appellations that fall under the definition of a public good.

Public labeling with experience or credence attributes

In agricultural markets, labeling aims at mitigating potential inefficiencies resulting from imperfect information about product characteristics. ? If consumers are not fully informed about product characteristics, they may consume an undesired characteristic or pay a price that does not reflect, for example, the risk associated with the good in question. ? Thus a producer?s allocation of quality characteristics to a product may not be socially optimal with unregulated markets (Tirole, 1988). ? Such asymmetric information concerns experience characteristics if quality is revealed after purchasing (Nelson, 1970), and credence characteristics if quality is not revealed even after purchasing (Darby and Karni, 1973). ? In practice, many goods fall into the ?credence? category (Caswell and Modjuszka, 1996). ? For example, product safety, production conditions, GMOs, or ethical characteristics are unobservable qualities. ? Safety as a credence characteristic is a somewhat particular case of the experience characteristic case as the lag between consumption and illness increases. ? Moreover, even with goods commonly considered to be experience goods, consumers may have difficulty recognizing or remembering product quality if the overall quality is defined by a great number of characteristics, or the product?s origin is uncertain.

Because of these issues, public intervention may be required in the absence of private mechanisms to signal product characteristics. ? As Kessler (1999, p. 30), who headed the U.S. Food and Drug Administration from 1990 until 1997, recalls ?The food industry alone cannot recoup its credibility. ? The public is simply not going to believe any assessment of risk that comes from a source with much to lose by exposing dangers. ? No purveyor of a product can be objective about the risks posed by its own products.? ? In other words, there is no reason that the signaling of characteristics will emerge spontaneously from a market equilibrium. ? Nayga et al. (2002), for example, show that for food irradiation, US consumers trust the safety claims of public agencies much more than those of private firms. ? Interestingly, when the question of food quality is considered, Loisel and Couvreur (2001) show that a majority of French consumers (52%) trust independent consumer action groups more than the French public agency for consumer protection (36%), but trust advertising (5%) and other government agencies much less (4%).

Consider first the problem with experience characteristics. ? In this case, signaling high quality via a price or advertising may be selected by a producer to maintain its reputation because it is easy to detect fraudulent claims in the case of experience goods. Even so, if numerous sellers exist, such a signal may actually become impossible. ? The reason is that an individual seller?s ability to implement a signaling strategy depends on its profitability (Bagwell and Riordan, 1991; Milgrom and Roberts, 1986), and the more competitive a market, the more difficult it is to signal a high-level of quality via a price or brand advertising. ? Simply, given a perfectly competitive market, a firm needs some economic rent to allow it to finance a quality signal. ? Agricultural commodity markets in particular ar e generally competitive (which is likely not the case for the highly concentrated food industry ), and the opportunities for merger are limited by ownership structures and geographic boundaries. ? The need for a signal may be even more important when consumers cannot be certain of a product?s origin, which is the case when agricultural products from a variety of processors are sold at the retail level with no brand designation. ? Finally quality often varies over time even for the same farmer, impeding efforts at establishing brand reputation. ?

With credence characteristics, the absence of consumer detection leads to the complete absence of revelation. ? Credence characteristics also have the added complication that no signal is credible without third-party intervention. ? In brief, with experience goods, the regulator has to consider whether or not private mechanisms are able to provide relevant information, while with credence goods no firm can validly provide information, since there is a high incentive for providing misleading information.

Public institutions that certify product quality are thus very useful in providing information to buyers via governmental grading systems. ? Part of the existence of these institutions is explained by the cost and the complexity of laboratory or auditor services for reliably establishing a product?s quality level. ? Again, given a perfectly competitive situation, the cost of setting up a certification process or to manage highly skilled inspectors is generally prohibitive for an individual producer. ? Further, some processes of certification require basic research and development (R&D). ? The lack of inspection technology by private agents provides one justification for public certification. ? Indeed, a single public agency may benefit from economies of scale when the fixed costs for R&D, certification or promotion are high (Auriol and Schilizzi, 2000). ? Nevertheless, for some industries, technology and knowledge are available and a private middleman may develop a credible system of certification (Holleran et al ., 1999). ? For example, the various organic food certification agencies in the U.S. act as private middlemen (Klonsky and Tourte, 1998). ? As the cost of certification may explain why private certification activities are generally very concentrated, a key issue may be to foster competition among middlemen to limit their rent capturing. ? The tradeoffs a regulator must make here would be between any efficiency in a possibly decreasing cost industry of certifiers and market power. ? Middlemen may provide worthwhile information, even if the market power of middlemen may actually outweigh any positive effect coming from information disclosure (Spulber, 1996). ? Wolinsky (1993) argues that in the case of credence characteristics, competition between experts leads to revelation, thus private certification is preferable when competition between middlemen is possible. ? However, even with private certification, as discussed previously, the label specification may require regulatory intervention to lend credibility to the signal. ? In particular, the regulation is useful for imposing a clear definition for some labels and/or for controlling the certification activity of middlemen.

In brief, except for some common label definitions, in the case of experience good labeling, the private sector under competition is likely more efficient than a public regulator. ? However, market failure and the inability of the private sector to police itself should be of far greater concern to policy makers in the case of credence good labeling.

2. Consumer reaction

Evaluation methodologies

Obviously consumers differ in the way that they will value characteristics. ? Indeed, some buyers prefer one type of product with a specific characteristic, and they are ready to pay a premium for it , while others are completely indifferent to this characteristic, valuing competing products in the same way. ? These latter consumers are ready to select various products with or without the specific characteristic if the goods are offered at the same price. ? This is the case for GMO foods as some buyers are reluctant to use them due to either a perceived contamination risk or because of some moral opposition to the technology, while others are completely indifferent to the presence of GMOs (Feldmann et al., 2000). ? What is important in this debate is correctly ascertaining consumers? preferences.

Economists have used a variety of methods to measure consumer reactions including surveys, hedonic approaches and experimental economics. ? Surveys are very useful at providing rough indications of preferences and determining general trends. For instance, Verdurme and Viane (2003), show that in Belgium, 23.5% of the respondents have positive attitudes towards GM food, 15.5% are reluctant and 61.0% are neutral. Senauer (2001), likewise has compiled results of preference surveys for consumers across Europe and the United States. ? Surveys cannot tell the entire story, however, especially when some translation from the differences in preferences among consumers to the differences in costs among various goods is sought. ? In laboratory experiments, Shogren et al. (1994), for example, underscored that there can be fundamental differences in willingness to accept and willingness to pay. ? In particular, Noussair et al. (2002) has confirmed this finding in showing that GMO reluctance in France is much less sensitive for consumers (in a lab environment using experimental economics) than for people giving their opinion (in surveys). ? The suggestion is that although surveys of the general population may indicate a large degree of uneasiness in the case of GMO goods, ? Noussair et al. show that the difference between consumers? willingness to pay for non-GMO versus GMO goods is in reality quite low.

Related studies have tried to analyse when a label is useful and buyers? willingness to pay for specific characteristics. ? Premium and market valuation of environmental attributes have been estimated (Blend and Ravenswaay, 1999; Nimon and Beghin, 1999a). ? For food safety, willingness to pay measures have been determined using contingent valuation, surveys, and experimental auctions (for instance, see Hayes et al ., 1995, for the reduction of pathogen contamination; Hoban, 1997, for biotechnology acceptance; Lusk et al. (1999, 2001, 2002, 2003) for meat, and Shogren et al ., 1999 and Nayga et al., 2002 for irradiated foods). ? Obviously, the main limit of such empirical methods is sample size and aggregation to the general population. Shogren et al ., 1999, show that revealed willingness to pay with observed choices for food safety in retail and laboratory settings are very close. This last result should encourage more experimental studies and policy makers would be wise to consider such studies prior to the regulation of labeling requirements. ? The caveat, of course, is that willingness to pay need not relate directly to any observed, actual market price or the marginal cost of products, so there will remain a difficulty in measuring all impacts on a given market. ? Still the insights from these experimental studies provide strong evidence that consumer preferences can be linked to some measurable cost for labels.

It is interesting that although there is a growing movement for labeling of credence characteristics that reflect aspects of production conditions such as ethical characteristics, animal welfare, or the absence of child labor, studies have generally shown that a very low premia exist for these products. For instance, Bigot (2002) shows that while 53% of French consumers would pay a premium for such characteristics; that premium would be 5%. ? Relatedly, another 44% would pay no such a premium. ? Other studies have shown that no consumers are ready to pay more than 10% compared to the price of a standard product (Shogren et al ., 1999 find similar results for irradiated food). ? The premium linked to origin of the product seems more complex (see below).

The limitations of public labeling in signaling quality

A regulator must keep in mind, that for an uninformed public, a signal such as a label may provide little, relevant information. Although the empirical methodology, presented above allows researchers to determine the most valuable characteristics for consumers, such value may never be garnered if consumers cannot discern it from the public label.

Finke (2000), for example, examined the U.S. Nutrition Labeling and Education Act of 1994, which has generally been seen as successful. ? Finke showed that the key to the program?s success was the importance of educating consumers about what the label meant. ? Further, signaling will not be socially advantageous when product differentiation is slight or when the consumers? premia for particular characteristics are very low. ? Mojduska and Caswell (2000) showed that, in the US, mandatory nutrition labeling was likely to increase significantly the amount of information available to consumers. ? Relatedly, regulators must keep in mind that a grading system may not always be relevant for c onsumers. ? For example, the United States Department of Agriculture grades beef quality based upon fat content. ? Clearly such a grade does not reflect the taste of consumers with a preference for low fat (Cox et al., 1990; Unnevehr and Bard, 1993).

The difficulty in knowing when to promote a label is reinforced when consumer demand is affected by imagined risks. ? Although Pollak (19 98) is more pessimistic about how imagined risks should be accounted for by economists, in particular in cost-benefit analyses, Viscusi et al. (1996, pp. 663) reminds us that in the face of a possible crisis ?an important function of the government is to acquire more scientific information than is feasible for an individual to obtain, to communicate this information effectively to the public [since] highly publicized events often are associated with substantial risk perceptions even though the risks involved may not be great.?

Some public labeling intervention may actually reinforce brand-label proliferation. ? Wine in Europe is a good example of such appellation proliferation. ? Peri and Gaeta (1999) provide interesting statistics about the number of (voluntary) labels and appellations in Europe indicating that such proliferation may be a reality. ? For instance they count more than 400 official appellations in the wine sector in Italy alone, a profusion that insures product diversity but certainly increases buyer confusion (see Consumer Reports, 1997). ?? Similarly, Berthomeau (2002) discusses the difficulty that the various French appellations have had in entering new export markets due to the absence of any clear specification of the label that distinguishes one appellation from another in the consumers? minds.

Indeed, Loisel and Couvreur (2001) show that even in France such signals of quality are not clear to many consumers. ? For example, the recognition of quality labels by French consumers is only 43% for Label Rouge, 18% for l'Agriculture Biologique and only 12% for Appellations d'Origine Contr?l?e. ? One major problem is simply the legibility and clarity of a label, especially one showing some official seal. Although Label Rouge is a well-established label, which suggests that reputation matters, the fact that less than half of French consumers recognize it is suggestive of the problems inherent in any label.

  ??????????? Although there are but a handful of studies, economists have shown that the origin of the food products seems to matter ? at least for European consumers (Hassan and Monier, 2001). Using hedonic approaches, Loureiro and McCluskey (2000) show that label of origin for fresh meat in Spain leads to price premia. ? ? Roosen et al. (2003) also suggest that consumers place more importance on labels of origin as opposed to private brands for beef; although this study is applied to European consumers facing mad cow disease, for which regional labels take on a highly significant meaning. ? In contrast, Bonnet and Simioni (1999), show that French consumers do not value the quality signal provided by the Protected Designation of Origin for Camembert cheese. ? In this case, the brand appears to be the relevant signal. ?

3. Producer organizations

Traceability and the supply chain organization

Labeling necessitates traceability, new technologies and investments that could influence contract design and/or vertical integration in the agri-food chain. ? Two important issues for the contract design are the sharing of the traceability cost among agents in the supply chain and the system of liability/sanctions in the case of cheating. ? For issues linked to the marketing chain, traceability or identity preservation, readers are referred to the works by Barjolles et al. (1999), Caswell et al. (1998), Henessy (1996), Reynaud and Valceschini (1999), Vetter and Karantinis (2002), and Bullock and Desquilbet (2002).

As traceability is essential for labeling, the information should be controlled by a third party and/or the government. ? Through random inspection and a fine on discovered cheaters a regulator should define a complementary control policy; since enforcement of the control policy is crucial for the label?s credibility.

Competition policy

European and U.S. legislation allow farmers to determine or jointly signal the quality of their products (under very specific rules), to prevent free riding and to preserve a common reputation (Tirole, 1996; Bourgeon and Coestier, 1996; Crespi and Sexton, 2003). ? Some voluntary labeling structures, such as indications of origin (e.g., PDO and PGI, discussed above) or quality in Europe, may even bring about market power. ? However, the negative effect of the producers? market power may be outweighed by the positive effect of quality improvement and signaling (Marette et al. , 1999). ? Producer organizations, defined or supervised by some agricultural ministry, must be scrutinized to make sure that they are not misusing their authority by excluding certain competitors. ? Labeling in agriculture has led to antitrust investigations for well-known products. ? Two such cases in France concerned cheese and poultry. ? In Italy, cases involving cheese and ham were examined. ? Generally, the contested practices included price fixing (or minimum resale prices), output reduction or quotas, and limits to entry (specifically, see table 2 in Lucatelli, 2000). These practices were recognized as infringements of national competition laws because they imposed restrictions that were not necessary for the production and promotion of high-quality products. It is important to note that each of the cases was decided without making any allowance for the fact that they involved agricultural products. ? Although the antitrust authority did recognize coordination as sometimes useful to improve quality, the message the Italian and French regulators sent was that governments should be vigilant in preventing an abuse of the spirit of the labeling regulations.

This section was meant to provide some discussion of why a regulator needs to be aware of the difficulties inherent in implementing an efficient labeling policy. ? We now focus on how to minimize a particular source of market distortion by discussing what may be the least intrusive method of financing a public label.

4. Optimal public policy: When should a regulator promote public labeling?

All the previous ideas presented in sections 1, 2 and 3 were presented as a guide to help determine an optimal labeling policy. Some additional questions need more clarification as there are likely going to be drawbacks that emerge with public labeling . ? First of all, a mandatory labeling system may be more costly than a voluntary system because the regulator needs to monitor all producers. ? Secondly, public management may increase bureaucracy (Niskanen, 1968). In certain cases, mandatory and voluntary public labeling can actually hurt competition since mandatory labeling may limit sellers? entry and will necessarily entail additional costs (Caswell, 1998). ? On the other hand voluntary labeling need not be benign if sellers are able to design labels that create barriers to entry on a particular segment.

Who should pay for public labeling?

Even with these caveats, however, given the importance of labeling, the question remains what is the best way to finance a public inspection program? ? For food safety, a recent study by the United States Department of Agriculture found a variety of user financing schemes being used by food safety inspection agencies around the world (MacDonald et al ., 1999). ? Some public inspection agencies charge fixed fees regardless the number of units inspected, others charge per-unit fees, while still other agencies charge no fee with the inspection costs borne indirectly by the public through taxes. ? For example, the USDA?s Food Safety and Inspection Service funded only 13.5 percent of its 1996 costs through the collection of $85 million in user fees (p. iii).

Raising revenues for labeling imposes distortionary costs on the economy. ? If the public is expected to pay for a labeling program that is managed by an official agency, a lump-sum tax may be used. ? However, due to the high level of taxes (and the high opportunity cost of public funds) in Europe and the United States, the regulator may prefer direct financing of the public labeling program. ? In this case, the labeling cost may be financed through fees on those agents (producers or consumers) that directly benefit from the information. ? A balanced budget for an agency is a good sign of the relevance of its activity because it shows that producers and consumers are willing to ?accept? the fees that cover the costs of certification. ? Crespi and Marette (2001), show in an application to food-safety certification, either a per-unit or an ad valorem fee is in most cases preferred. ? The rationale is straightforward. Because such a fee maintains competition among those sellers proposing the same type of products, both sellers and consumers of labeled products will incur the cost, because the fee is passed on in the price. ? The result is that, while there is a welfare loss due to the fee, there is no further market distortion. ? On the other hand, in the presence of asymmetric information, a fixed fee can actually lead to a greater market distortion, as Crespi and Marette (2001) show, due to a monopolization effect that arises in this case. ? However, the choice of a fixed fee may be justified if the number of sellers is very low and the labeling cost is fixed. ?

International trade implications

One of the major concerns today among exporters is how much the requirement of a label by an importing country will affect the demand for a good. ? Recent work on this issue has been performed by Bureau et al . (1998), Hooker (1999), Mahe (1997), Nelson et al. (1999), Nimon and Beghin (1999b), and Sheldon (2002). ? That labels entail international trade implications, such as non-tariff barriers is hardly debatable. ? Ideally, economists and policy makers have argued that regulators should develop trade policy to integrate as much as possible any trade distortions coming from a labeling program (OECD, 1999). ? The Uruguay Round of the General Agreement on Tariffs and Trade (GATT) provided a framework for solving disputes, through the WTO?s Dispute Settlement Body; it tackles the problem of non-tariff trade barriers through the Sanitary and Phytosanitary (SPS) Agreement and a strengthened Technical Barriers to Trade (TBT) Agreement. ? The scope of the 1979 TBT Agreement was also extended during the Uruguay Round with compliance with relevant international standards encouraged. ? The TBT Agreement is wide-ranging and covers all technical regulations and standards except those falling under the SPS Agreement, including those relating to packaging and labeling. ?

US trade representative Robert Zoelick announced in January of 2003 that he wished to bring a WTO case against the EU?s GMO labeling requirement, calling it a ?Luddite? policy ( Financial Times , 2003). ? The US position is that without a scientific basis for segregating the products, such labeling amounts to a non-tariff trade barrier because it imposes a labeling-cost ?tariff? on mostly US producers who use GMOs. ? The policy difference between the two sides is that, for the most part, the US is arguing about labeling based on the conventions of the SPS agreement: since GM foods pose no more food-safety risk than conventional foods, there is no rationale to the labeling. ? The Europeans counter that under the TBT agreement, countries may take precautionary measures against risk (Caswell, 2001; Sheldon, 2002). ? These are legal issues to be considered by policy makers; what is mostly missing from the debate is a discussion of how exactly consumer preferences should enter the argument.

? Giannakas and Fulton (2003) and Crespi and Marette (2003) do not consider the causes of welfare changes from the presence of GMOs, but simply assert that consumers are maximizing welfare based upon their perceptions. ? In Crespi and Marette (2003), consumers maximize utility based upon their preferences toward GMO products, regardless the basis for these preferences. ? In this way, the authors avoid falling into the trap of determining what ?should or should not? be part of a consumer?s utility function. ? If consumers have lower utility from the consumption of GMOs, it does not matter whether that utility is lower because they are being ?duped? or because they have preferences that are based upon valuations other than the safety of the food: Luddites maximize utility based upon their preferences just like everyone else. ? Using this simple framework, Crespi and Marette determine a practical test to help policy makers discern whether mandatory labeling is being used to increase societal welfare or whether it is being used as a trade barrier. ? Essentially, in a country that requires labeling, if the ratio of consumers concerned about GMOs to indifferent consumers is low, a voluntary label on GMO goods is likely all that is necessary to improve welfare; if this ratio is high, then a mandatory label on GMO goods may very well increase welfare in that country. ? Thus, observations of governments? requiring labels on GMO goods when consumers in those countries show little interest in the debate should be closely examined.


In discussing the work of economists on food labeling issues, we have argued that when a public label has been mandated, it is imperative that the regulatory agency take into account several important factors before deciding the type of label and/or certification program to use. ? For example, the regulator needs to take into account the nature o f the product, as the success of a particular labeling program will very likely depend on whether a product is vertically or horizontally differentiated from its nearest substitutes, whether the good is a credence good or an experience good, and whether the label itself provides informational externalities. ? The regulator must also keep in mind how the labeling cost will affect the structure of the market.


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See Caswell, 1997, and Teisl and Roe, 1998 for very complete surveys on labeling and Dimitri, 1999, for an historical point of view of marketing institutions.

This is the case for dolphin-free tuna and child-labor-free products. ? For instance, the ?Fair trade certified? coffee sold by Starbucks specifies that the coffee is directly bought from growers at a ?fair price? rather than from middlemen (see Time, 2000).

Note that price signaling may occur with sellers in competition. ? A positive price distortion (compared to the price under perfect information) is possible under experience goods, when the sellers have to exert effort at each period to maintain product quality (i.e., a moral hazard model with an infinite horizon; see Shapiro, 1983). ? However, in any finite horizon model with moral hazard or in the absence of origin detection by consumers, sellers will cheat in the last period, hence in the penultimate period, and so on, so that no signal is possible.

Perfect monitoring is costly (see De and Nabar, 1991; Mason and Sterbentz, 1994, for imperfect product testing). ? Chalfant and Sexton (1999) show that, in the case of California marketing orders, some grading errors can increase industry profit. ? See Coestier (1998) for the determination of an optimal inspection policy.

On the other hand, new generations of GM food may directly improve a product?s quality (i.e., vertical differentiation). ? For instance, consider the case of Dupont?s high-oleic soybean, which yields an oil lower in artery-clogging saturated fats ( The Economist, 1999). ? Clearly, certain consumers, like those with heart conditions, may be willing to pay a premium for just such a GM food (Crespi and Marette, 2000b; Valceschini et al., 1999).

Article 85(3) of the European Union allows agreements among sellers ?which contribute to improving the production or distribution of goods or to promoting technical or economic progress, while allowing consumers a fair share of the resulting benefit, and which does not impose on the undertakings concerned restrictions which are not indispensable to the attainment of these objectives.? ? Abiding by this principle, the antitrust authorities in Europe are vigilant regarding producer coordination. ? A key point for antitrust exemption is the necessity of the producers? cooperation to achieve ?technical or economic progress.?

See the Conseil de la Concurrence (Paris), decisions 92-D-30 (April 1992) and 94-D-41 (July 1994).

See Autorita Garante della Concorenzza e del Mercato (Rome) decisions 3999(July 1996), 4352 (October 1996), 6549 (November 1998).

Hooker and Caswell (1996), Segerson (1999) and Crespi and Marette (2000a) consider the comparison between mandatory and voluntary certification. ? In some instances, there may be consumer demand for certification even when there is no governmental requirement. ? Voluntary certification leads to markets where every seller with a desired product chooses to certify. ? Competition incites all such sellers to certify their products.







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