Do Bad Products Drive Out Good

In a thought-provoking paper' Akerlof argued that in a situation where samples of a product might vary in quality and where the consumer at the time of purchase was unable to tell the quality of the particular sample he was buying, there might be a tendency for bad products to drive out good, possibly even to the point where there was no market at all in the good. The phenomena involved in such a process are clearly of intellectual interest and practical importance, and my aim in this paper is to examine certain of their aspects in more detail than has been done hitherto. One can show that Gresham's Law-that bad products drive out good-may not always be valid: to be precise, in a dynamic context it is valid only if traders are sufficiently shortsighted, in the sense of discounting future benefits at a sufficiently high rate.