Experts, reputation and the price of wine

Economists have intensively studied the relationship between product quality and market prices. We contribute to this literature in two dimensions. First, we empirically account for endogenous reputation effects. While numerous empirical studies suggest a firm's reputation for high quality to have a significant and positive impact on market prices, less research has focused on how firms may build a reputation (Basdeo et al., 2006). Consistent with the theoretical literature on reputation (Board and Meyer-ter-Vehn, 2013), we argue that investments in product quality will not only have a direct (contemporaneous) effect on market prices, but may trigger indirect (long-run) effects via improved reputation for quality: ‘Once quality is established, it is persistent and generates a stream of reputational dividends until it becomes obsolete’ (p. 2393).

A structural econometric model estimated for more than 20.000 individual wines from 488 wineries in Austria reveals that the long-run ‘stream of reputational dividends’ are indeed important. Simulation experiments indicate that the price effects of a one-time quality increase are about 40% larger when the ‘stream of reputational dividends’ are taken into account compared to a situation where long-run reputation effects are ignored. We further provide first empirical evidence on how reputation is established in a multi-product context. Our results show that reputation can be leveraged across products (Rasmusen, 2016): the quality of a ‘star product’, (i.e. the product with the highest quality) of a multi-product firm is particularly important for establishing a good firm reputation and generates a ‘reputational dividend’ (‘umbrella-effect’) for other products with lower quality.

Our second main focus is on selection effects in expert evaluations. Experts typically evaluate a selection of products only. We argue that a non-random selection of products for grading can lead to biased parameter estimates in the quality-price relationship when the selection process is not explicitly taken into account. The econometric model shows that selection effects are significant and that the estimated effects of product quality on prices are indeed biased if endogenous sample selection is ignored.