Investment in quality under asymmetric information with endogenously informed consumers

When sellers are privately informed about quality, signaling models can suc cessfully explain an equilibrium correlation between prices and exogenous q uality but do not account for incentives to invest in quality improvement. This paper shows that sellers may be motivated to invest in quality if cons umers, though initially uninformed, may acquire costly information before b uying. The equilibrium has the attractive feature that incentives to invest are greater the less costly it is for consumers to become informed. (C) 20 00 Elsevier Science S.A. All rights reserved.