Regulating Markets with Advice: An Experimental Study*

AuthorFelix Gottschalk
Published date01 February 2021
DOIhttp://doi.org/10.1111/obes.12383
Date01 February 2021
1
©2020 The Department of Economics, University of Oxford and JohnWiley & Sons Ltd.
OXFORD BULLETIN OF ECONOMICSAND STATISTICS, 83, 1 (2021) 0305–9049
doi: 10.1111/obes.12383
Regulating Markets withAdvice:An Experimental
Study*
Felix Gottschalk
Center for Economic Research, ETH Zurich, Z¨urichbergstrasse 18, Zurich, CH-8032,
Switzerland (e-mail: mail@felix-gottschalk.com)
Abstract
We present a newly designed market experiment to study regulatory measures in markets
with advice inspired by two recently developed theoretical models. In line with our pre-
dictions, our experimental markets create conf‌licts of interest and unsuitable advice biased
towards high-commission products. We examine whether two frequently discussed regu-
lation measures – disclosure and f‌ines for ex post unsuitable advice – reduce commission
payments and improve advice. None of the regulation measures result in lower commis-
sions and more suitable advice, however, and advice is equally biased in all treatments.
Furthermore, with disclosure, conf‌licts of interest are enlarged, offsetting the potentially
restraining effects of disclosure. The potential impact of various behavioural factors is
discussed to encourage further research.
I. Introduction
In f‌inancial or health-care markets, consumers turn to experts for advice about which third-
party product best f‌its their needs. For example, consumers approach investment advisers
who possess superior information about which investmentfund consumers should purchase
given their f‌inancial targets, and patients turn to doctors and pharmacists to receive advice
on appropriate pharmaceutical products given their health situation. Chater, Huck and
Inderst (2010) report that approximately 80% of all f‌inancial investment decisions are
made in the presence of an adviser. In health-care, this percentage is likely to be even
higher because in many countries, medications cannot be purchased without consultation
with a health-care provider.
The economic signif‌icance of markets with advice is great and has been growing. The
share of the f‌inancial sector in the United States rose from around 3% of gross domestic
JEL Classif‌ication numbers: D18, G28, I11, L14, L51
*I thank Wanda Mimra for her guidance, comments, and support, and Christian Waibel for his valuable tips and
ideas. Further thanks are due to the editor and two anonymous referees for their many useful suggestions. I am
grateful to Jithendar Anumula, Angela Peter, and Julia Burri for research assistance, and to Urs Trinkner for IT-
support. Moreover, I am indebted to the seminar participants at the Experimental Brownbag Seminar at ETH Zurich.
An earlier version of this work appeared under the title “Markets for Advice.An experimental investigation” in my
dissertation “Essays on Credence Goods Markets with Applications to Health Care and Financial Advice,” ETH
Zurich 2017. Last but not least, I thank Stefanie and Paul for their support during the revision process and beyond.
2Bulletin
product (GDP) in 1945 to 9% in the 2000s (Philippon, 2015). Similarly, health-care ex-
penditure in the United States rose from roughly 6% of GDP to more than 17% between
1970 and 2018.1Combined, these sectors today account for approximately one-fourth of
US GDP. A common phenomenon in markets with advice is that the product providers
make payments to advisers, often in the form of (hidden) commissions. These payments
are of considerable size. For example,Anagol, Cole and Sarkar (2017) estimate that com-
missions in the life insurance market in India total almost 10% of the sum of premiums.
Furthermore, payments from pharmaceutical companies to health-care providers in the
United States amounted to USD 9.35 billion in 2018.2
Commissions can impact welfare both positively and negatively. On the positive side,
commissions incentivize advisers to become experts who educate consumers about useful
products.3This expertise can be especially valuable whenconsumers do not have suff‌icient
knowledge about the products offered in the market, as is the case in most markets for
advice; for example, a large body of literature has documented how widespread f‌inancial
illiteracy is a worldwideissue, see Lusardi and Mitchell (2014) for a review. More precisely,
as demonstrated by Inderst and Ottaviani (2012a), commissions can havethe positive effect
of steering advice towards more eff‌icient products, when providers are able to pay higher
commissions for these products. On the negative side, commission payments may create
conf‌licts of interest for advisers by rewarding advice that is not in the best interests of
consumers.4
Advice that is not in the best interests of consumers – advice that is ‘biased’, for
example towards products that pay higher commissions – can harm consumers and lead
to ineff‌icient market outcomes (Inderst and Ottaviani, 2012a). Although biased advice
is a prevalent problem, many consumers seem to be unaware of it. According to Chater
et al. (2010), more than 80% of consumers who had recently bought f‌inancial products
thought that the advice they received was unbiased. Similarly, it has been documented for
health-care that patients resist the idea that advice from their own doctor is possibly biased
(Gibbons et al., 1998).
Given the potential problems associated with biased advice, the regulation of such
markets is, unsurprisingly, a highly debated issue. Reinforced by the f‌inancial crisis of
2007/2008, regulators in all parts of the world have enforced new laws or revised exist-
ing ones involving stricter disclosure requirements. For example, European Union (EU)
member states have been subject to the MiFID II legislation since 2018.This involves new
disclosure requirements or the ban of commissions altogether.With respect to health-care,
similar developments can be observed. For example,the Affordable Care Act in the United
States, initiated by the Obama Administration, has mandated the disclosure of payments
from product providers to health-care providers. Moreover, in the Europe, the produc-
1Data from the OECD, available at stats.oecd.org.
2The Affordable Care Act initiated by the Obama Administration in 2010 has mandated the disclosure of such
payments in the health-care sector (published on openpaymentsdata.cms.gov).
3We thank an anonymousreferee for suggesting this argument.
4Evidence for biased advice in real-world f‌inancial advice markets has been documented in several re-
cent f‌ield studies, for example Anagol et al. (2017), Sane and Halan (2017), and Egan, Matvos and Seru
(2019).
©2020 The Department of Economics, University of Oxford and JohnWiley & Sons Ltd

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