Unc Charlotte Economics Working Paper Series Voluntary Disclosure of Negative Information and Its Effect on Competition

Contrary to conventional wisdom that sharing negative information hurts, many sellers voluntarily disclose weaknesses of their products in markets where information asymmetry is high. This paper provides an explanation on this type of seller’s honesty by developing a framework where sellers with low-quality products can benefit from a disclosure of negative information. We consider a lemon-market model where the product’s quality is unobservable by buyers and buyers dislike the risk associated with purchasing the product of uncertain quality. Sellers can send a cheap-talk message indicating whether their quality is high or low. We describe equilibria where, with positive probability, low-quality sellers voluntarily disclose negative information about their product. The disclosure is beneficial for sellers as it results in product differentiation: there is no quality uncertainty about products labeled as low quality, while there is uncertainty about products labeled as high-quality. Voluntary Disclosure of Negative Information and Its E↵ect on