Label Confusion: The Groucho Effect of Uncertain Standards

Labels certify that a product meets some standard for quality, but often consumers are unsure of the exact standard that the label represents. Focusing on the case of eco-labels for environmental quality, we show how even small amounts of uncertainty can create consumer confusion that reduces or eliminates the value to firms of adopting voluntary labels. First, consumers are most suspicious of the standard for a label when a product with a bad reputation has it, so labels are often unpersuasive at showing that a seemingly bad product is actually good. Second, label proliferation multiplies the effect of uncertainty, causing the informativeness of labels to decrease rather than increase. Third, uncertainty makes labeling and non-labeling equilibria more likely to coexist as the number of labels increases, so consumers face greater strategic uncertainty over how to interpret the presence or absence of a label. Finally, a label can be either legitimitized or spoiled for use by other products when a product with a good or bad reputation displays it, so firms have an incentive to adopt labels strategically to manipulate such information spillovers, which further exacerbates label confusion. Managers can reduce label confusion by supporting mandatory labeling or by undertaking investments to make certain labels “focal”. JEL Classification Categories: L15, L21, D82