Online reviews regularly inform consumers, weed out terrible providers and products, and can even be an unexpected comedy gold mine. But they may also reduce the need for occupational licenses, according to a new working paper released by the National Bureau of Economic Research.
Conducted by Chiara Farronato from Harvard Business School, Andrey Fradkin of Boston University, Bradley Larsen of Stanford, and Erik Brynjolfsson from the MIT Sloan School of Management, their study found that “consumers care about online reviews and prices more than about occupational licensing signals available on the platform” and “appear to pay little attention to licensing.” As an increasingly available “alternative signal of quality,” online reviews have “probably reduced the level of regulatory scrutiny needed for service providers,” they concluded.
In fact, compared to reviews, ratings, and prices, many consumers “care little” about a professional’s verified license status, which is relatively “unimportant.” Meanwhile, stricter licensing requirements limited competition and raised costs “without corresponding benefits in terms of customer satisfaction” or “noticeable improvements in quality.”
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However, the researchers were careful to note that their study was limited to occupational licenses related to home improvement and that their results specifically cast doubt on whether licenses are an effective signal to consumers, as opposed to the “entire value of licensing regulation.”
The study had three main components. First, the researchers examined how consumers interacted on a nationwide, US-only online platform for home improvement projects. Over an eight-month span in 2015, the researchers analyzed more than 1 million consumer requests across nearly 400 different service categories, including gutter cleaning, interior design, painting, and plumbing. The identity of the platform was kept confidential but in an online lecture, Farronato described it as the “Airbnb for home improvement services.”
On the platform, consumers post a project, outlining their needs. Interested professionals then pay a fee to submit bids, which lets the client see the proposed price as well as the professional’s online ratings and any previous reviews. Critically for this study, the platform also lets professionals upload proof that they have been licensed. But that information is shown to customers only after the platform has verified the license, which took an average of 5.5 days. (According to platform employees, any variation in the time delay is “as good as random.”)
This time lag let the researchers “measure how consumers respond to seeing a signal indicating that a professional is licensed.” License verification, they found, had “no statistically significant change” for how likely a consumer would hire a professional. In contrast, a professional’s first review did bolster their hiring probability. In other words, unlike a provider’s reputation, “knowledge of a professional’s licensing status does not substantially impact consumer choices.”
To bolster these findings, the researchers conducted a survey of more than 5,000 consumers who had all recently paid for home improvement services. When asked what their top three reasons were for choosing the provider they hired, price was by far the most common, followed by reviews and recommendations. Less than 1% of respondents identified licensing as one of their main reasons.
Just over 60% of respondents knew that their chosen professional was licensed. But among those surveyed, 85% learned this fact either when they signed the contract or because they were told by the professional directly. Notably, more people found out about the professional’s licensing status on Yelp and similar sites than on an official government website.
Finally, the researchers set out to measure how licensing regulations affect supply and demand on the platform. They constructed a “licensing stringency” measure that mainly relied on the Institute for Justice’s License to Work study, which catalogs licensing requirements for more than 100 lower-income occupations nationwide.
Perhaps unsurprisingly, the researchers found that “more stringent licensing laws are associated with less competition (fewer professionals bidding) and higher prices but have no detectable effect on two proxies of customer satisfaction: a customer’s online rating of the service provider and their propensity to use the platform again.” In short, licensing in the home improvement sector can impose significant costs with little upside.
That finding echoes others. According to a separate study by the Institute for Justice, occupational licensing now affects nearly 20% of American workers and costs the country over $180 billion each year. Needless to say, any effective alternative would benefit consumers and entrepreneurs alike.
“A well-functioning feedback system can be an effective substitute for licensing by reducing the need for upfront screening or quality certification,” the researchers wrote. “The advent of online reputation mechanisms may be providing just such a system.”
