This paper studies the economic rationale for customer return policies
, by focusing on the ''experience goods'' aspect of many products. Ret
urn policies allow consumers to defer their purchasing decisions until
after they gain some experience with goods. In so doing, they insure
consumers against ex post loss, which allows a monopoly seller to char
ge more than otherwise. It is shown that the seller adopts the return
policy when consumers are highly risk averse or retail costs are high.
Consumers are strictly better off under the return policy, but there
is too little adoption of the policy in equilibrium.