An economic model of ecolabeling

Firms would like to capitalize on consumers' willingness to pay more for goods that use environmentally friendly production techniques, but have difficulty credibly conveying their environmental friendliness. One possible remedy is “ecolabeling,” where a third party certifies firms' products. To model this phenomenon, I analyzed a market characterized by asymmetric information in which firms decide whether to seek an ecolabel. Market equilibrium is discussed in three settings: where both technologies and outputs are fixed (so the only choice is whether to seek certification), where technologies are fixed but outputs are not, and where firms can choose both technology and output.