Bundling and Quality Assurance

Abstract

We consider a repeated moral hazard model of product quality choice by a multiproduct firm selling experience goods with imperfect private monitoring. When consumers receive imperfect private signals of product quality, consuming two products from the same firm improves monitoring. Monitoring by consumers has a positive externality on other consumers, but consumers ignore this when making their purchase decisions. Product bundling improves product quality by constraining consumers to purchase both goods and monitor more effectively. The social and private value of bundling is even larger if (1) consumers can only attribute a negative signal to a pair of complementary products and not to a specific product, and (2) if one of the two goods is a durable and the other is a complementary nondurable.