Economists credit ads with two welfare‑enhancing roles: 1. Informative – trimming search costs (Stigler 1961 (pdf)). 2. Signaling – In classic models, high-quality sellers are more willing to incur…
Economists credit ads with two welfare‑enhancing roles:
- Informative – trimming search costs (Stigler 1961 (pdf)).
- Signaling – In classic models, high-quality sellers are more willing to incur large, sunk ad costs because they expect to recoup them through future sales, especially in experience-good markets where quality is learned over time (Nelson 1974). Milgrom and Roberts (1986) formalize this idea: when ad spend is costly and more valuable to better firms, it can serve as a credible signal of quality.
Internet upended the first role—search is instant—but also weakened the second.
Five Frictions That Flatten the Signal
- Disposable brand identities
Launching a fresh storefront requires packaging, photography, and a seed set of paid or incentivized reviews; yet, those outlays are tiny relative to the lifetime margin on a successful listing. Because tarnished names can be retired cheaply, long‑run reputation no longer disciplines bad actors. - CPA pricing removes the burn
Most major ad systems now let advertisers pay only when a sale or lead occurs (Target CPA in Google Ads, Cost‑per‑Result goals in Meta’s Advantage+ campaigns, goal‑based bidding in Amazon DSP). With spending converted from sunk to variable, even low‑quality sellers can fund promotion from day one revenue. - Light‑touch returns & the “Frequently Returned” tag
Seamless returns cap consumer harm, but seller penalties are modest: a restocking fee, a metrics ding, or Amazon’s “Frequently Returned Item” badge—issued only after damage is done. Only the worst lemons are fully delisted, leaving plenty of mediocre goods in play. - Ratings compression
Star ratings on major platforms increasingly cluster between 4.3 and 4.9, leaving buyers little room to distinguish products. Part of this stems from review manipulation—Amazon blocked >250 million suspected fake reviews in 2023 alone, indicating the size of the problem. - Heuristic‑driven shoppers
Deprived of credible signals, buyers default to the price–quality heuristic—higher price means better goods (Monroe & Krishnan, 1985). Sellers respond by listing identical inventory at staggered prices across multiple storefronts.
These frictions reinforce one another: CPA funding keeps every storefront bidding; fake reviews mask quality gaps; disposable brands dodge reputational blowback; and behavioral heuristics close the sale, locking the marketplace into what we call the grifter equilibrium.
A Sock Search in Action
Search “ankle socks” on Amazon:
- Sponsored slots dominate; brands are unfamiliar.
- Ratings hover around 4.5; product photos are interchangeable.
- Prices span a wide range without visible changes in features.
Formalizing the Grifter Equilibrium
A. Setup
| symbol | description |
|---|---|
| posted price (assumed equal across types) | |
| unit cost of high‐quality and low‐quality goods, with | |
| platform take rate under cost‑per‑acquisition (CPA) bidding | |
| probability that a low‐quality sale triggers a penalty/return | |
| expected penalty per flagged lemon | |
| cost of opening a new storefront |
B. Per-Sale Profits
High- and low-quality sellers earn:
$$\pi_H = p(1-\tau) - m_H$$
$$\pi_L = p(1-\tau) - m_L - \phi(R + k)$$
Here, $\phi R$ is the expected per-sale penalty and $\phi k$ is the expected cost of relaunch amortized over the number of sales until detection (assuming detection occurs with probability $\phi$ per sale). High-quality sellers face no returns ($\phi = 0$) and no relaunch costs.
C. Participation Conditions
For both types to advertise, profits must be positive:
$$p(1-\tau) > m_H \quad \text{and} \quad p(1-\tau) > m_L + \phi(R + k)$$
Because $m_H > m_L$, the high-quality seller's threshold is more demanding. If $p(1-\tau)$ lies between these two thresholds, only low-quality sellers advertise, creating adverse selection rather than pooling.
D. Ad Signaling Fails Under CPA
Suppose both types satisfy the above inequalities. In a world without repeat-purchase advantages and with CPA bidding (where ad costs are variable), high- and low-quality sellers earn the same gross revenue per sale. Any difference in advertising expenditure would have to be sunk and unrecoverable.
If advertising is instead pay-per-sale, then low-quality sellers can fund their ads from first-period revenue. Consequently, advertising expenditure cannot credibly signal quality.
The model thus deliberately eliminates the mechanism by which high-quality sellers would otherwise advertise more (i.e., by having higher lifetime value).
E. Dynamic Relaunch
The expected present value of a low-quality storefront under CPA is:
$$\text{NPV}_L = \frac{\pi_L}{r + \phi} - \frac{\phi k}{r + \phi}$$
where $r$ is the discount rate. Solving yields:
$$\text{NPV}_L = \frac{p(1-\tau) - m_L - \phi(R + k)}{r + \phi}$$
A pooling equilibrium requires $\text{NPV}_L > 0$. Increasing $R$ or $k$ reduces $\text{NPV}_L$ and can break the incentive for low-quality sellers to persist.
Escape Hatches
Restoring signaling requires a cost that lemons cannot shirk:
- Persistent manufacturer IDs – reputation follows the factory, not the storefront.
- Return‑adjusted CPA surcharges – raise ($\tau$) when ($\phi R$) climbs.
- Escrowed ad bonds – forfeited if defect or return metrics exceed benchmarks.
- Relaunch detection – inventory‑fingerprint matching to raise ($k$).
The proposed remedies (persistent manufacturer IDs, return‑adjusted CPA surcharges, escrowed ad bonds, relaunch detection) aim to raise $R$ or $k$ in the above inequality so that low‑quality sellers’ net present value falls below zero. They do not restore the classic signaling equilibrium unless repeat‑purchase advantages are reinstated, but they can deter entry by the lowest‑quality sellers.
Why the Marketplace Doesn't Implode
- Return valve caps—but doesn’t erase—consumer pain.
Generous return policies and Amazon’s “Frequently Returned Item” badge let buyers jettison the worst lemons. Hassle costs remain, but catastrophic disutility is rare. - Ultra‑low unit costs keep lemons profitable.
When socks cost $2 to make and the CPA take‑rate is 20 %, sellers can survive double‑digit return rates and still clear margin. - Heterogeneous, often low‑stakes demand.
For gym gear, kids’ camp supplies, or one‑off gadgets, shoppers accept higher quality uncertainty in exchange for speed and price, muting the penalty for mediocre goods. - Platform revenue is tied to congestion, up to a point.
Amazon collects a fee on every ad click and every sale, so a crowded, ad‑dense marketplace boosts short‑run revenue. The company does police egregious abuse to protect long‑run customer trust, but the optimal balance still tolerates a substantial volume of “good‑enough” products.
See also: https://www.gojiberries.io/optimally-suboptimal-behavioral-economic-product-features/
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Comments
One of the remedies proposed, tying product reviews to the manufacturer instead of the storefront is a very difficult thing to implement.
Manufacturers are in a fundamental conflict with Amazon precisely because they desire to fully control the retail channels and set their own promotions, online discounts etc. and capture most of the surplus themselves while still segmenting the market and, for example, selling at different prices through certain local distributors.
Amazon has the exact opposite incentives, they want distributors of the same brand to compete amongst themselves so they can offer the lowest global prices, and that it's Amazon and its users that capture most of the surplus.
This is the root of the forgery problem Amazon can't solve, manufacturers aren't willing to vouch for their products when sold in secondary channels they do not fully control. So this means they will not collaborate on the "global rating" scheme either.
> This is the root of the forgery problem Amazon can't solve
Has chosen not to solve. They could trivially improve the situation by ending the practice of commingled inventory so a seller could be held accountable for counterfeit or stolen items but that would cost more so they don’t.
How do they handle it when you get your inventory sent back? I.e. you send them 100 pieces of X and after three months you tell them to send them back to you. Do they just take 100 pieces of X out of their general inventory, or do they know which ones were yours? Because otherwise it seems like an obvious scam where you could send in trash and get real items back.
By acdha 2025-07-1913:34 I don’t know but based on the number of people I know who’ve gotten clearly counterfeit or repackaged items from official storefronts on Amazon, I would assume they just take 100 units out of that bin.
By whatever1 2025-07-1919:34 Commingling only happens at the frontend. For each item the vendor is tracked. Physically they are in different bins and more likely in different warehouses. So if you buy a product and it turns out fake, Amazon can trace back the vendor for the particular item you received.
It helps with inventory availability with the cost of risk of bad customer experience in case of fraud.
RFID is a possible solution. Tags are now about five cents, and likely to drop further in price with volume. Newer tag designs can be sewn in the seams of garments and shoes.
Commingling is optional to Amazon vendors, all they have to do is track each item with a plain individual sticker / QR tag. They opt not to do it and track using the generic product barcode since it's cheaper and simpler.
So if they can't be bothered to attach a zero cents sticker on the item, a 5cents rfid tag is out of the question.
By phil21 2025-07-203:14 The commingling thing is crazy overblown. One of those internet memes that just grows legs and the legend can never live up to its original source.
If it’s both fulfilled and sold by Amazon, I have yet to have anyone actually provide an actual first person story that their item came from commingled or forged stock.
Yes, I’m sure it has happened. It’s not a widespread thing. Amazon does not sell Tide detergent sourced from some random third party that sent in stock matching the SKU being sold because it happens to be in a closer warehouse.
Random listings on Amazon? Sure I’ve received fake stuff. That’s the risk of using a third party storefront.
I have also not heard or seen of a well sourced story recently where someone’s esoteric custom product SKU was being sent in by third parties as the same ASIN and comingled with the legit companies listing.
The shady listings seem to be where this all comes from to begin with. Amazon could cull those nearly overnight but chooses not to. This is where the main problem lies. The times you click the legit listing for the FBA/SBA Amazon item, and then there are 12 “options” like multi-packs that are random third parties trying to take advantage of the unaware type of dark pattern.
By godelski 2025-07-204:32 They can definitely solve some problems. There's a number of items that are well known to have common forgeries. Weirdly common is things like Lamy pens[0]. I've gotten legit ones from amazon but seem fake ones.
One big problem I see is if you go to the storefront of some seller there isn't a way to see all their items. I find this baffling, and a clear red flag. Just start clicking on the stores when you're poking around next time. It's very common for things like pet toy sellers or even electronic component retailers. I've seen even certain colors of products be listed on a different page and sold for much cheaper.
There's also the classic example where a page was originally for one product but now has another. You look at the reviews and they're talking about a different product, sometimes related sometimes drastically different. This is actually a great use case for some ML. Flag products if a classifier says the item is significantly different than the previous photos. Could use some basic NLP to check product titles and see if they match. It creates some issues but Amazon has such a big problem that it would be worth it for the customer experience.
But I think the problem is all of this doesn't "make more profits." If it's hard to verify a product a user will spend more time on Amazon. If the idea is that more time increases likelihood of buying more things then a little fraud is good for them. Worse for the customer but better for them. I'm not sure how you solve this problem
[0] https://www.reddit.com/r/fountainpens/comments/q14p5w/are_la...
Ehhh, My experience is the opposite(perhaps it is what you buy) manufacturers hate dealing with the end customer directly, customer-service is huge pain and not part of their core competence. So the manufacturer always goes through resellers, distributors, middle-men.
Personally I hate it, I would love to buy directly from the manufacturer instead of playing roulette with the distributor.
By Marsymars 2025-07-200:44 I’ve bought a fair number of things that include specific notes inside the product with something to the effect of “if you have a problem with this product, please contact us directly rather than the seller”. (Presumably there’s no advantage to including that if you’re going to offer bad support when anyone contacts you.)
I'm recently seeing some ads on TV, that make me avoid ads by any means. There simply weirdness and harmfulness to eyes mixed and served. I think this is being done to attract viewer attention, which became 99% of the goal, rather than being informative or signaling. Sometimes there is hardly any indication what the actual product is, and how it is relevant to whatever weirdness that took up most of the ad time. Things like putting a mouth on the forehead of people, fast flickering scenes, and I can't even dare to speak about other weirdness. Oh god, the ad designers are a desperate bunch for attention. I'm really fearful of touching TV remote. And if these ads really liked by people, then I'm fearful of the future of the world in the hands of these people.
"media time" or the amount of time Americans consume media is not rising (6-7 hours a day). So no great new user growth + no great screen time growth. But the Ad industry revenues are growing at 15-20%.
With a population of ~300 Million the US ad industry generates 400 Billion in revenue. Avg Bounty of >1000 bucks a year per person.
The only way to pull that off is to keep injecting more and more ads everywhere and make everything more tempting to watch.
The biggest threat to these companies is if time spent consuming media drops.
By majormajor 2025-07-1916:231 reply You don't need more advertising to get the revenue to keep rising.
All you need is two things:
1) a zero-sum game where the amount spent by companies on advertising is less than their profit margin
2) advertising channels that perform in a way that can be correlated with short-term outcomes
"We can afford to up our ad spend by 0.5% to try to gain an edge."
You juice your market share or total sales numbers for a quarter, everyone is happy.
Then your competitor does the same.
Assuming your advertising is equally effective, you may have netted out to about where you started. But you've both ratcheted up your spend and likely won't reduce that short of a macro change or parent company health issues.
And if certain advertising performs better than others, one company can very well make long-term gains here, if they have writers and producers and talent who are making more compelling pitches.
But it still ramps up the total advertising industry spend even with a fixed supply of ad capacity, if it gets a bidding war going.
As long as you don't have 100% market share with 0 competitors, advertising will look like a very compelling short-term ROI option.
Even if time spent watching media drops it may not squeeze a lot of parts of the advertising sector so hard - it'll just push demand into smaller buckets which will increase the prices for those buckets. Look at the crazy revenue sports television broadcast advertising has been doing as other forms of TV go away with commercial skipping or lower-ad-load streaming.
Of course, at SOME point the increases can't be sustained. Even the most profitable products have a limit to how much money could be possibly directed towards advertising. But we don't appear to be particularly close to demand being satisfied.
I personally suspect in many industries there is a sort of informal agreement about what is reasonable spending on sales and marketing.
If any single company spends more, and succeeds in gaining advantage purely by spending more, all their competitors will generally just be forced to follow.
But, no one really wants to follow that to the logical conclusion of spending all possible dollars on marketing.
By majormajor 2025-07-1919:551 reply > But, no one really wants to follow that to the logical conclusion of spending all possible dollars on marketing.
Sure, just like nobody wants to spend all possible dollars on rent.
But outside of "we just can't afford it anymore" external economic factors shocking the system, the natural incentives point to a slow and constant ratcheting up.
IMO this would be a good reason to have further regulations on advertising - locations, frequency, accuracy - since we're gonna be saturated with it otherwise.
By nitwit005 2025-07-204:49 There are a number of studies showing competing companies in industries tend to make coordinated actions.
I'm sure you've noticed everyone raising their prices together, or fast food restaurants all halting 24 hour service at around the same time.
People often operate based on perceived industry norms/trends, rather than some sort of rational economic analysis.
If you’re the VP of marketing though, your incentives are to ratchet up the marketing spending as much as possible in a way that shows ROI.
Increasing spending doesn't increase ROI, so a better version of that argument is that the VP is prone to "empire building" and wants to run a bigger department, with a bigger budget and headcount.
By Marsymars 2025-07-2013:19 Yes, that’s better put. (Though I didn’t mean increased ROI - just that increased spending has a non-negative ROI.)
Here is my question. Who is paying for it all to get to a 1000 bucks bounty per person / year?
The same question, who is paying for all the data collection they do on customers?
You keep hearing about xxx billion dollar industries but where is that money coming from? The add and data collection industry in the US is probably a trillion dollar market or more, but ... does it really work? Sure, focused ads on some youtube channel about product that may be of interest, but all the rest is such a mess.
I do not buy more stuff because some ads showed up. Sure, they can be informative that there is a new car released, or something like that. But there is no desire to buy XXX cleaning product because they spammed it on TV.
Same argument with "what use is getting all my personal data, down to the things we do in bed". Sell it to specific companies? But what do they really gain from it. It does not feel like we are getting better products as a result of all that user data. O, people are not happy about Y product. You do not need invasive data collection for that, you see it in your revenue numbers.
It often feels like a lot of industries are just there to self sustain themselves. Nobody ever got fired for buying advertisement or personalized data. So companies keep spending on it, people keep pouring over the data, analyzing it, but its like nobody has common sense and its all a scam that inner feed itself.
I am not saying that advertisement does not work to grow a product, but especially unknow one's but the moment product reach a specific mass...
By joules77 2025-07-1916:26 When you look at the $$$ on hourly basis rather than yearly it all drops to cents. Basically its become very cheap to flood everyone with ads. And since Attention is a scarce resource we get everyone who wants to capture attention trapped in an arms race for it.
The big threat to the whole system is when the amount of time per day people spend consuming media starts to drop thanks to fatigue and finding better things to do.
By whatever1 2025-07-1920:31 It would be nice if we could cut the middle men and let the companies send us directly checks. I would love to be getting a 1000$ advertising check per year.
They pay the same, I will keep buying whatever my friends suggest me to buy. Win - Win
By sheiyei 2025-07-1914:42 I'm pretty quick to never-again a company which advertises in a way that makes me sick. A certain electronics store chain that operates here in the Nordics, which someone is bound to recognise, is on my ban list for psychedelic surrealist shock advertising.
Not that I see much ads any more anyway, what with Ublock Origin, Blokada 5 and Youtube ReVanced.
By ElisaChemy 2025-07-1917:26 Totally agree,I think things got incrementally worse after TikTok’s release though. It’s like the content (including ads) is getting so chaotic and overstimulating that I walk away feeling mentally exhausted. All of it is just noise designed to hijack attention for a few seconds.
By CommenterPerson 2025-07-1913:03 As a consumer, my reaction to all this is simply to stop looking and stop buying. Unless it's something urgent, I put it on a list and wait. Many times the need goes away. Better than dealing with all this crap.
