Abstract: Ecolabels are product seals of environmental approval which have the potential to lessen the environmental impacts of human consumption. Due to their infancy, several issues arise as to how well they will achieve their goal. They involve consumer response, producer participation, cost-efficiency, and label clarity and integrity. This paper will use Schmid's SSP framework to analyze these with respect to label effectiveness and to ask whose preferences count under alternative label, market, and regulatory structures.

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INTRODUCTION

Environmental issues continue to gain in political and economic importance worldwide. Entire institutions aimed at improving environmental quality are emerging as a result of an ongoing learning process about the human effects on our natural ecosystems. One of the most innovative of these is the ecolabel. Its goal is to lower the harmful impacts from human consumption by changing the way products are manufactured and grown. Being such a new phenomenon here in the U.S., there exist several essential issues as to how well the ecolabel will perform. These include whether enough consumers and/or producers will participate to make them worthwhile, cost-effectiveness, prevailing label quality and variety, and label integrity. The objective of this paper is to form hypotheses concerning each of these issues under alternative structures using Schmid's SSP paradigm and then relate them to the expected performance of the ecolabel in achieving its goal.

Ecolabels are seals of environmental approval awarded by public or private organizations (van Ravenswaay, p. 2). These organizations, referred to here as labelers, create standards for a given product category (e.g. paper, refrigerators, apples) that specify production practices and product specifications that are less damaging to the environment than conventionally made goods. Experts are hired to scientifically validate the standards. Producers who apply for a label and meet the standards are awarded a license for its use on their product. The label itself provides consumers with information about a product's (lower) environmental impact that is otherwise unknowable from its use. Thus, it signals the additional product attribute of less impact from production and use and can command a higher market price. This price premium gives producers an economic incentive to incur the additional costs often associated with meeting the standards.

Each section of this paper will address one or more of the issues mentioned above using Schmid's SSP paradigm (Schmid, 1987). His method defines a situation with respect to human interdependencies caused by a particular good, and evaluates its performance under alternative structures. In section one will be discussed interdependencies that arise from ecolabel pricing schemes, variety, and quality. From these will be made predictions about producer participation and consumer response. The second section will analyze consumer interdependencies with respect to the purchase of environmental quality and the expected number of purchasers under alternative market structures. Section three will deal with label honesty and costs under alternative regulatory schemes. The paper will conclude with observations and avenues for further study. In each section, the SSP question will be asked of whose preferences count. Organic food, an excellent example of product certification, will be used as a case study.

LABEL VARIETY AND PRICING SCHEME.

Situation.

The ecolabel is created and awarded by a labeler who acts as an information broker. Standards are created for a particular product category, often by producer request, and these outline allowable production practices. The labeler has the right to license producers who meet their standards. Once a set of standards is in place, any number of producers can apply for and be awarded the seal.⁽¹⁾ Each product must separately meet the appropriate standards to be labeled.

Labeler fixed costs include the creation, scientific testing and review of standards as well as marketing. These costs can be high due to the complexity of the process. They are spread out, however, as more producers use the label. Variable costs include the testing and monitoring associated with each additional producer who applies. It is reasonable to assume that as the number of applicants increase and labelers get larger, monitoring and testing procedures become more efficient leading to lower average variable costs over time. Thus, ecolabels embody economies of scale, and marginal costs (MC) per applicant steadily decrease or approach zero. This means that at some point each applicant will cost a labeler very little. The question then arises of how to distribute costs across producers. The labeler has the power to decide this through its pricing scheme for the license. Producers have the right to earn a profit from their labeled goods. The chosen pricing scheme by the labeler will determine how easy it will be to earn those profits, and thus affect producer participation.

The label is voluntary and thus avoidable by producers. They can choose not to use it if they are dissatisfied with the product quality level dictated by the ecolabel, referred to here as label quality. The level of label preemption that inherently exists depends upon whether ecolabel provision is public or private. This level and the preferences of those with the power to dictate label quality will determine the prevailing label variety and quality (Schmid, pp.75-80).

Structure and Performance.

The fewer labelers there are, the more power a given labeler has in setting price. This does not mean that any pricing scheme will be successful, however. A labeler can charge each producer the marginal costs (MC) of licensing the seal at the time of application. Under economies of scale, the MC curve is continually decreasing over a large range. This means that the timing of producer application for use of a given label is crucial with respect to how much it pays. The first producers pay more, shouldering more of the fixed costs and higher variable costs, and are thus at a disadvantage. Such a scheme might very well lead to strategic holding-out on the part of producers. Each would want to be the last among their competitors to request licensing for a particular label. This could lead to low participation rates, as those receiving licenses first might find the pricing scheme unfair. With only one labeler in the market, such a scheme would most likely result in the complete non-participation of producers since the first applicant would be charged an exorbitant fee. In the case of multiple labelers, such a pricing scheme might put that particular labeler out of business as producers would look elsewhere. Thus, MC pricing would likely lower producer participation and result in lack of provision. An example of similar pricing and hold-out behavior involves the purchase of last-minute airline tickets at a large discount. The last passengers on a flight pose a negligible MC to the carrier. Many passengers take advantage of this at the cost of making a last-minute decision. Due to the large number of agents involved and confidential payment info, airlines can use MC pricing.

A labeler also has the option of charging the same rate to all for the use of a label⁽²⁾. The problem of who pays what is then avoided. Fixed and average costs are spread out evenly among applicants. Producer participation is much more likely under this scheme as most are used to paying a set price for their licenses and inputs regardless of when they buy them relative to their competitors. Market norms in this country have discouraged price differentiation on the basis of when one purchases a good, and agents have become accustomed to set prices for all participants. This would suggest that a uniform pricing scheme is likely. This is the practice followed by organic certifiers to growers for a given crop and farm size and it has worked.

The second major structural alternative involves the quality and variety of ecolabels that will ultimately prevail. As mentioned before, labels are avoidable by the producer. Where label preemption is high as in the case of a government program, each product in a given category follows the same standards nationwide. Only one variety of label exists. The government labeling organization dictates the level of product quality under an ecolabel by their chosen standards. Thus, those in power in that organization and those who have influence over them have their preferences count and dictate the single label quality. They might include industry interest groups. When label preemption is low as in the present U.S. case with multiple private labelers, different levels of standards prevail for each product. Each labeler chooses their own standards for a given product leading to a variety of labels. The variety that exists depends upon how many labelers are feasible for the U.S. market which depends in turn on cost curves and ecolabel market share.

Since ecolabels are so new, it is hard to predict which type of provision will ultimately prevail, and if private, how many labelers will exist. A government-run program is currently being considered. However, the U.S. has lagged behind other countries in exploring a such a program, and private labelers have so far taken the initiative. In the case of organic foods, there exist many private organic certifiers abiding by a federal Organic Foods Production Act who seem to have found regional niches with certain products. Growth has been rapid with this private structure.

Under the government structure, the single label might be offered at a lower price to producers than the average private label. Reasons for this include lower average costs from government economies of scale, easier access to scientific expertise, and only one set of standards to administer and monitor. Schmid refers to this as the variety vs. cost tradeoff (1987). This might lure some producers in that hadn't been able to afford labels before. Some producers, on the other hand, might choose not to apply for a government label who would under the private structure because of the restricted choice of one label variety to put on their product and thus one level of dictated product quality. Producers living in Arizona for example might be more inclined to follow standards that dictate water-saving production practices rather than specifications for biodegradability of their good in a landfill. Private labelers might be better able to cater to differing sections of the population by offering labels that highlight different attributes and levels of allowable impacts. Assuming lower fees under a government label, the preferences of producers who prefer lower costs over variety would count. Under a private structure, the preferences of variety-loving producers would count.

Ecolabel variety also affects consumers. Labels have different effects on each person based on their past experiences, education, and knowledge. Some consumers might be unfulfilled with a single, national label for a given product. Thus, one might argue that multiple, private labels would serve a wider range of shoppers. However, consumer mental processing ability is limited. Considering a history of consumer confusion over even simple labels and the large number of products available, one label may be more than enough for people to handle. As more labels are introduced, consumer uncertainty might actually increase as it did in the late 80's.

Heiner refers to this as the human competence-difficulty gap. Simply stated, too much information can actually cause consumers to make mistakes and perhaps avoid labels altogether. Many consumers might more easily identify with one standard label that is recognizable for purchasing decisions. This would benefit some consumers for whom the information is too much at the expense of those for which it is not and whom prefer a variety of labels on their products.

CONSUMER PARTICIPATION IN PURCHASING ECOLABELED PRODUCTS

The reward that the ecolabel consumer receives from their purchase is the promise that a particular product will lead to less environmental damage. Thus, they are buying environmental quality. Since this reward is not immediate or monetary, it is unclear whether consumers will respond to ecolabels. If so, will enough people respond to make the them worthwhile to producers and the consumers whom already buy them? Numerous surveys have shown that a majority of consumers are willing to buy environmentally less damaging products. Some surveys also indicate, however, a much lower percentage of actual labeled purchases.

Situation.

The environmental quality that results from the labeled purchase is not immediately apparent to the consumer. Indeed, he or she may never directly experience the improvement. The reward from the promise of improved environmental quality is likely derived from their love, obligation, and commitment towards the environment, with the hope that enough consumers will feel the same to make a significant and noticable difference to that quality. Environmental quality is inherently a high-exclusion-cost (HEC) good, as others cannot be excluded from any benefits to it that one's purchase brings. It is impossible for an individual to determine who has bought a labeled good and thus who has contributed to that quality due to large numbers of market participants and the non-accountability of purchasing behavior. Furthermore, purchasing a non-labeled good is not generally frowned upon by society. Instead, it is the status quo. Freedom of what to do with one's money is upheld by societal norms and democratic ideals. Consumers have the right to free entry and exit within the market. Thus, there is nothing one can do to coerce others to contribute to environmental quality by spending a bit more to purchase a labeled good.

Environmental quality fits the characteristics of Schelling's multiple prisoner's dilemma (MPD) where desirable individual choices (paying the lower, standard price for an unlabeled good) lead to an undesirable outcome overall (lower environmental quality that affects everyone). In his model, there are those who make the 'right' choice that contributes to the benefit of all, the ecolabel consumers in this case, and those who do not. In order for the 'rights' to benefit from their choice, a threshold number of label purchasers must be achieved. If not, they will lose out. It is hard to imagine an example of a purchasing threshold that is knowable by ecolabel consumers when reached and that suddenly satisfies all the 'rights' simultaneously. In our case, it might consist of enough people buying labeled goods to cause a noticable environmental improvement such as less soil erosion on farms or widespread participation by large food chains. This might cause enough benefit and optimism to 'rights' to convince at least some of them that environmental quality is improving as a result of their purchase. What is important then is how to increase the number of ecolabel buyers to a threshold point where the labels pay off in the market.

Structure and Performance.

Under the current market structure, there is a chance that the threshold might not be met. Some simply are not willing to pay more for a product just because it reduces environmental impact. If it is not met, ecolabel consumers will most likely be frustrated as they paid more only to receive no noticeable benefit in environmental quality from their sacrifice.

A second structure is that of mandatory purchasing of labeled goods by all consumers. This would involve a trade-off between consumer's rights to do what they want with their money and increased environmental quality. This might be accomplished in two ways. One would be to require consumers to purchase a certain percentage of their budget on labeled goods. This would be costly and politically infeasible. The other way would be for regulators to require only labeled goods on the market for certain products, indirectly forcing ecolabeled purchases without directly revoking consumer rights. The result might be greater environmental quality than under a free market structure, although to what extent it is hard to tell. Some consumers would become angry and unwilling label purchasers. They would view such a policy as an infringement on their rights to product choice, especially if higher prices resulted. Consumer interest groups would most likely intervene. As a result, ecolabels would be viewed negatively limiting their effectiveness.

A third structure is the formation of consumer cooperatives within the market by those concerned with environmental quality. These would allow ecolabel consumers to make their preferences count more through the non-coercive encouragement of others to follow their purchasing habits. A current example is the food co-op which sells organic and environmentally safe foods, advertises a green lifestyle, disperses information, and often offers memberships for activities and discounts. Within these, people can easily communicate and influence each other's purchasing behavior. They have the opportunity to directly elicit their preferences to producers through voice which is often more effective than simply boycotting a good (Hirshman, 1970).

Usually co-ops involve small groups of people who are more tightly knit than shoppers at supermarkets, who have certain characteristics in common, and whom can be held more accountable for their purchases through a community-type atmosphere. In addition, the selection of products at co-ops are often geared towards those that are organic or ecolabeled, providing different stimuli to consumers. Co-ops are continually growing in number and have served as a springboard for organic food to be sold on a larger scale at supermarkets. They are an example of a low-exclusion-cost good (through memberships and selection) being tied to a HEC good of environmental quality in order to achieve greater participation. Another is bottle returns and the high participation rates encountered when shoppers are given a low-exclusion-cost refund.

Skinner would classify co-ops as a positive consumer reinforcer to purchasing ecolabels as opposed to the negative reinforcement of a mandatory structure (Nye, 1992). In effect, a co-op structure would encourage the purchase of labeled goods and a threshold would more likely be reached. If such a threshold could not be identified, co-ops would at least increase participation and bring labels closer to their goal. Dawes (1990) would agree. She found that in experimental group situations where there is group identity, accountability, smaller numbers, commitment, and communication as with co-ops, there is more cooperation (pp. 106-109).

LABEL HONESTY AND CONTENT

We now address the issue of whether an honest label will be produced that will hold integrity with consumers. If labels are false or perceived to be false, consumers will not purchase them. As a result, honest ecolabel producers will be hurt and driven out of the market. A paper by Grodsky's (1993) provides a helpful legal background to aid in this section.

Environmental marketing claims first took off domestically in the late 1980's as green consumerism became popular. The first big wave consisted of many confusing, misleading, and unsubstantiated claims such as 'environmentally friendly' and 'biodegradable' that were created by producers themselves. This phenomenon was termed Greenwash. No scientifically valid ecolabels existed at that time nor did any regulation pertaining to such claims. Consumer confusion and skepticism resulted. The Federal Trade Commission (FTC) and several state agencies eventually took action against a few of these in the early 90's. The FTC also issued voluntary guidelines in 1992 that defined to producers what claims were unacceptable. As a result, many producers stopped using claims or turned to newly emerging, third-party ecolabelers. Ecolabels took some of the monitoring burden off the FTC. They took the initiative to develop scientifically valid standards where companies would not. Consumers were more apt to believe the claims of an ecolabeler than a producer. However, little monitoring has been done of ecolabelers themselves. Furthermore, there are still no binding rules nor consistent monitoring pertaining to unsubstantiated environmental claims. Enforcement is thus limited.

Situation.

Ecolabels are a high information cost (HIC) good with an asymmetric information aspect. Consumers cannot discern a product's environmental impact by touching, tasting, smelling, or in most cases using it. Producers and labelers know more about their products than consumers. This gives producers and labelers an opportunity to lie about their products as was done with Greenwash. Without effective regulation, there is no way to know for sure whether a label or claim ensures any environmental improvement or whether the producer is just trying to gain extra profit or simply validate a claim. This, combined with media and consumer interest group coverage of dishonest claims, can lead to a substantial decline in ecolabel integrity. Thus, we must think about what type of enforcement can overcome HICs and asymmetric information.

Structure and performance.

For enforcement, there is a choice between the current structure of voluntary guidelines, and official, binding government regulation (Grodsky). The current FTC guidelines for environmental claims were designed to educate advertisers about permissible and non-permissible environmental marketing practices. Producers can presently be made liable under Section Five of the FTC Act for unfair or deceptive acts in commerce and unsubstantiated advertising claims. However, Grodsky argues that these enforcement tools lack the precision and muscle to stop the Greenwash trend. They do not create any certainty for producers as to what will lower their liability from false advertising. The qualifications are open-ended and subject to a wide range of interpretation. More importantly, they are not legally binding. They can only inform producers of label interpretation; the FTC must shoulder the burden to prove guilt in fraudulent cases. As a result, the FTC has only been able to persecute the worst violations (Grodsky, p. 226-227).

To make things worse, the law is currently such where it is hard for consumers to successfully sue fraudulent producers. This is in part because of the high transaction costs involved in suing or organizing multiple consumers and the HEC aspect of making the market more honest. Indeed, states and the FTC have been the only ones to successfully bring suit to fraudulent producers (Grodsky 157-160). Thus, the result is an ineffective enforcement scheme. Dishonest producers more easily get their way and bad claims can drive out the good including ecolabels. On the other hand, this less-binding regulation has kept the costs of ecolabels down to all involved and has allowed producer flexibility and innovation in label development.

Grodsky suggests an alternative of federally binding rules on claims as a structure where the EPA would "develop rigorous and legally binding standards defining and specifying the use of environmental marketing terms" (p. 163), clearly defining what is misleading. The EPA would be selected due to its environmental policy mandate, technical expertise, and regulatory experience (p. 171). Under these, enforcement would be easier and effective. In addition, it would provide uniformity to rules and liability, greatly lowering confusion. The burden of proof would fall on the producer, and there would be less legal confusion. It would also help to create a citizen suit provision in the rules to ease burden of consumer action. Grodsky notes that history has shown binding rules as preferable to guidelines when requiring companies to make affirmative disclosures (p.171). Additional rules would be made for the monitoring of ecolabelers themselves.

Strict rules have undoubtedly helped organic foods maintain their integrity. These include a federal list of materials prohibited from use by organic farmers. Such binding measures will likely be created for ecolabels and environmental claims if they gain enough market interest. However, the additional costs involved will pose an economic obstacle to label success. This might argue for one well-recognized label that is easily regulated and produced at a lower cost.

CONCLUSION

It is hard be certain which structures will best serve ecolabels without observing their evolution in the coming years. It is clear that ecolabels will function better when enough agents participate and costs are kept down. To accomplish this labels should be clear, charged at a set fee, flexible, recognizable, tied to a LEC situation, and sufficiently enforced to ensure integrity.

Dawes, Robyn, et.al. "Cooperation for the Benefit of Us--Not Me or My Conscience," in J. Mansbridge, ed Beyond Self-Interest, 1990, pp. 97-110.

Grodsky, Jamie A., "Certified Green: The Law and Future of Environmental Labeling", The Yale Journal on Regulation, 1993, vol. 10(147): 147-227.

Heiner, R., "Origin of Predictable Behavior", AER, Sept. 1983, vol 73(4):560-595.

Hirshman, Albert O., Exit, Voice and Loyalty, Harvard University Press, 1970.

Margolis, Howard, Patterns, Thinking, and Cognition, U. of Chicago Press, 1987 excerpts p. 20, 39-40, 46.

Nye, Robert, The Legacy of B.F. Skinner, Brooks/Cole, 1992, Ch. 2.

Schelling, Micromotives and Macrobehavior, Norton, 1978, Ch. 7.

Schmid, A., Property, Power, and Public Choice, Praeger, 1987, second edition.

van Ravenswaay, Eileen O., "Emerging Demands on Our Food and Agricultural System: Developments in Environmental Labeling", 1996, prepared for the proceedings of the AAEA Preconference held on July 27, 1996.

Acknowledgments

I would like to thank Prof. Eileen van Ravenswaay for her guidance, support, and help with this project. I am also indebted to Prof. A. Allan Schmid for his paradigm and help on this paper

1. Some labelers choose to only license a certain percentage of applicants.

2. It is assumed here that both pricing schemes are revenue neutral to the labeler.