Market demand of smart but uninformed consumers rotates counterclockwise with better information: surprising welfare effects

Abstract

Providing truthful and unbiased information about the true value of a good to a priori heterogeneous consumers generates a mean-preserving counterclockwise rotation of demand. The welfare analysis of such rotation in monopoly and perfectly competitive models indicates that consumers can lose surplus if they become better informed.

Keywords:

• Information
• rational expectations
• demand rotation
• welfare effects
• advertising

JEL Classification:

• D80
• M37

Notes

¹ Consumers may need to actually see test results certified by some agency to allay suspicions of self-serving advertising, but may be willing to accept that CR is honest.

² Competitive markets are often depicted as having upwards sloping supply functions, while monopoly is often characterized by a constant marginal cost with a fixed cost. This distinction is important here, as PS is in the form of rents in the competitive case.

³ The cost of better information provision may be paid for by the government based on taxes on producers in this industry, all producers, or consumers generally.