Strategic Mis-selling and Pre-contractual Cognition
Abstract: The paper studies asymmetric awareness of the appropriateness of a status quo product between a seller and a buyer, where the latter can invest cognitive resources before contracting `a la Tirole (2008). In the one-shot interaction, we show that there is no separating equilibrium in which the seller always truthfully reports the appropriate product. If the extent of mis-selling and the transfer from the seller to the buyer in the case of mis-selling are low, we have a pooling equilibrium where the seller always announces that the status quo product is appropriate. Otherwise, we obtain a semi-separating equilibrium where the seller randomizes between telling the truth and mis-selling if the status quo product is inappropriate. The transaction cost of pre-contractual cognition increases with the extent of mis-selling as the extent of mis-selling is small and decreases thereafter. Finally, reputation with a “tip” mechanism or competition between sellers may yield a separating equilibrium where the transaction cost vanishes.
