Organic Food and the Double Adverse Selection: Ignorance and Social Welfare

The idea that lies beneath organic food production is founded on high quality of ingredients and scrupulously natural processes in order to obtain products more genuine than the “usual” industrial standard food. As a matter of fact, however, the production of organic food can be mimicked by industrial production by means of marketing. Moreover, consumers do not always properly know which the differences between standard and organic food are. Industrial food producers have many incentives to mimic high quality organic production, both in terms of profits and reputation. Here, a model with three firm types is presented: organic food producers, standard food producers setting high price to mimic organic food, and standard food producers setting low price. This model shows that the lack of knowledge generates two sources of adverse selection: the bad purchase made by consumers buying from mimicking firms, and the case of consumers buying standard food consciously, either because of their ignorance or to avoid the risk of the bad purchase. If correct knowledge were available, the resulting outcome would change dramatically: it is shown that after a policy oriented to disseminate education and awareness, a net increase in social welfare occurs, since consumers' gain is greater than mimicking firms' loss.