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Vive la différence: When lemons masquerade as plums

In the grocery store or at the farm market, the difference between lemons and plums is readily apparent. But in a used-car lot, or the exclusive French wine industry? Not so much.

Early in the 20th century, before the French government enacted a 1935 regulatory law, the wine market in France suffered from a lack of quality control. Appellations from renowned regions such as Bordeaux, Burgundy and Champagne would use these lofty monikers, often without the requisite attention to detail and quality. And when the overall quality was diminished, the better wines bore the brunt.

Ariel Ortiz-Bobea, associate professor in the Charles H. Dyson School of Applied Economics and Management, and collaborators have gathered evidence suggesting that the overall quality of French wine prior to the 1935 law that instituted regulated regional appellations – known as appellation d’origine contrôlée (“controlled designation of origin”), or AOC – was subpar, and that the law created a net 7% increase in industry welfare.

Their findings are detailed in “How Big is the ‘Lemons’ Problem? Historical Evidence From French Wines,” published July 12 in the European Economic Review. The lead author is Pierre Mérel, professor of agriculture and resource economics at the University of California, Davis.

“When you’re buying a car and you cannot tell a ‘lemon’ from a ‘plum,’ then you, on average, think that this car might actually be problematic,”  Ortiz-Bobea said. “Buyers will think that way, and then won’t be willing to pay a premium if they aren’t sure of the quality.”

In a groundbreaking 1970 paper, American economist George Akerlof formalized the notion that a consumer’s inability to ascertain quality differences in products may “drive the good product out of the market.” The net result: If buyers can’t distinguish good products from bad, they tend to value a product’s quality as average, which may keep sellers of good products out of the resulting “lemons” market.

In early 20th century France, more than 1 million producers generated wines of varying styles and quality. That coupled with a lack of reliable third-party validation of quality made it difficult for producers of high-quality wine to establish solid reputations – and justify the associated cost.

“It was basically like, ‘I produce wine from Bordeaux,’ but you plant these ordinary, high-yielding varieties,” Ortiz-Bobea said. “So you’re bottling and selling crappy wine, but legally you were entitled to say you were producing a Bordeaux.”

That changed in 1935 with the passage of the AOC law, which codified production rules and implemented official controls for fine wines claiming a reputable geographical appellation. Wines that met those strict standards could opt in to be labeled as such; most of the AOC decrees regarding quality control occurred in the first two years after the law passed.

But what was the cost of the prior lack of controls? Ortiz-Bobea, Mérel and Emmanuel Paroissien, a research fellow at the French National Research Institute for Agriculture, Food and Environment, collected a dataset comprising 63 years’ worth (1907 through 1969) of annual average wine production and prices from each administrative unit.

“We tracked the market price of the wine in places that were implementing these AOCs more rapidly than others,” Ortiz-Bobea said. “Areas where you had the bigger penetration of [AOC], saw steeper increases in the market value of wine.”

Using modeling and econometric analysis controlling for other potentially confounding factors, the research team found the market value of wines increased by 14% increase following AOC enactment. When increased costs of producing higher-quality wine were factored in, the team found on that net benefits were around 7% for the entire market.

“The reform was not perfect,” Merel said, “but this speaks to the ability of a reliable certification system to create economic value that’s more fairly distributed across the market.”

The AOC was not a mandatory government action, Ortiz-Bobea said.

“This is not forced – if some people wanted to keep producing lower quality  wine, they were free to do so,” he said. “They just wouldn’t be able to have that (AOC certified) label on their bottle. It’s a voluntary system, but there’s a control behind it.”

Ortiz-Bobea said the AOC regulation of the mid-1930s has become the blueprint for quality control in other products – for example, cheese and, to some extent, certified organics.

“You think about any product where people really want to tell the consumer, ‘Hey, we’re following strict rules about our quality,’” he said. “They’re all based on this system, the AOC that started with wines.”

This work was supported by the Paris Institute for Advanced Study and the Cornell Center for Social Sciences.

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Lindsey Knewstub