What is Credence Good?
A credence good is a type of good with qualities that cannot be observed by the consumer after purchase, making it difficult to assess its utility. Typical examples of credence goods include expert services such as medical procedures, automobile repairs, and dietary supplements.
- Credence goods are goods whose qualities cannot be ascertained by consumers even after purchase.
- Such goods often exhibit a direct relationship between price and demand due to information asymmetry.
- The asymmetry means that sellers have an incentive to cheat buyers by charging high prices for an inferior good.
Understanding Credence Good
Credence goods are part of the Search, Experience, Credence (SEC) classification used by economists and marketers. Credence goods that do not perform as expected can have adverse consequences, ranging from financial loss to ill-health and even death.
For example, the U.S. Food & Drug Administration has, over the years, prohibited a number of dietary supplements from being marketed, either due to misleading advertising claims by their manufacturers, or because they could induce serious side-effects. Michael R. Darby and Edi Karni coined the term credence goods and added it to Phillip Nelson’s (1970) classification of ordinary, search, and experience goods.
Credence goods often exhibit a direct relationship between price and demand, similar to Veblen goods, when the price is the only possible indicator of quality. This might result in a situation where price becomes the determining factor for quality and less expensive products are suspected to be of poor quality and avoided.
For instance, a restaurant customer may avoid the cheapest steak on the menu in favor of one more expensive. After eating it, the customer will still be unable to evaluate the relative value of the steak compared to the other cuts of steak on the menu they have not tried.
The Issues of Credence Goods
Typically information about a good plays an important part in determining its worth. For example, the more a consumer knows about the innate qualities and characteristics of a good, the better he or she will be able to determine its worth. Credence goods, however, suffer from information asymmetry.
The inequalities found between the information known by the buyer and seller in credence goods markets bring about inefficiencies that attract significant public scrutiny. As an example of a credence good, consider a motorcyclist bringing his motorcycle to a mechanic for repair.
The mechanic—as an expert seller—could have a reason to cheat the consumer on two fronts.
First, the repair might be inefficient. The mechanic might replace more parts than are actually necessary to bring the car back on the road (and charge for the additional parts and labor). This type of case is referred to as overtreat-ment because the additional benefits to the consumer are smaller than the additional costs. The mechanic’s repair might also be insufficient, thus leaving the consumer with a bill, but with a motorcycle that isn't roadworthy. This type of situation would be referred to as undertreatment since any material and time spent on the repair is pure waste.
Second, the repair might be appropriate, but the mechanic might charge the consumer for more than he has actually done (such as claiming to have changed an oil filter without having done so). This kind of problem is known as overcharging, and it can also lead to inefficiencies in the long run if the fear of getting overcharged deters consumers from trading on credence goods markets in the future, thereby creating an Akerlof-type of market breakdown (George Akerlof 1970).
According to research, there are two drivers for car repair shops to overcharge customers. The first one is the existence of less competition. More competition from similar repair shops enables consumers to consult other shops and compare prices. The second incentive for auto repair to overcharge is a financial crisis within their business.
Example of Credence Good
The healthcare industry is an example of a credence good. There are two components to healthcare: physician service or demeanor and the technical aspect that consists of medical evaluations and prescriptions. A majority of patients have knowledge of and can evaluate physicians regarding the first component but they find it difficult to evaluate or quantify the second component because it requires specialized knowledge of the methods and practice of medicine. Patients mostly find it difficult to dispute a medical practitioner's prescription without assistance. Education is another industry that is an example of a credence good.