EXCESSIVE AND INADEQUATE RECOMMENDATIONS IN EXPERT SERVICES

Abstract

The informational advantage that experts have over consumers on the nature of treatment needed can lead to expert-induced demand that either adds no value to the consumers but is generated solely by the experts' incentives, or is inadequate to resolve the problem of the consumer. We show that at the equilibrium, excessive recommendation always occurs with a positive probability despite options for second opinions. Even though serious treatments are more pro table, inadequate recommendation, i.e., providing a minor treatment to a consumer with a serious problem, does occur when the ethics level and diagnosis cost are low and the ex ante probability of a minor problem and the relative pro t margin of a minor treatment are high. We also show that social welfare may worsen with a higher ethics level, a lower price for serious treatment, or a lower diagnosis cost. Insurance improves social welfare when it eliminates inadequate recommendation as an equilibrium.