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Abstract

Large retail chains have spent considerable resources to promote production protocols and traceability across the supply chain, aiming at increasing food safety. Yet, the majority of consumers are unaware of these private food safety standards (PFSS) and retailers are not informing them. This behavior denotes a pooling paradox: supermarkets spend a large amount of money for food safety and yet they forget to inform consumers. The result is a pooling equilibrium where consumers cannot discriminate among high quality and low quality products and supermarkets give up the potential price premium. This paper provides an economic explanation for the paradox using a contract-theory model. We found that PFSS implementation may be rational even if consumers have no willingness to pay for safety, because the standard can be used as a tool to solve asymmetric information along the supply chain. Using the PFSS, supermarkets can achieve a separating equilibrium where opportunistic suppliers have no incentive to accept the contract. Even if consumers exhibit a limited (but strictly positive) willingness to pay for safety, advertising may be profit-reducing. If the expected price margin is high enough, supermarkets have incentive to supply both certified and uncertified products. In this case, we show that, if consumers perceive undifferentiated products as “reasonably safe”, supermarkets may maximize profits by pooling the goods and selling them as undifferentiated. This result is not driven by advertising costs, as we derive it assuming free advertising.

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