Do minimum quality standards contribute to regional economic convergence? Will an initial difference in product quality and adjustment costs lead to divergence of regional welfare levels in future periods? How will quality standards affect future outcomes? In Discussion Paper No. 1385, Research Affiliate Stefan Lutz analyses these questions in the framework of a dynamic two-country model with imperfect competition. The static one-period analysis without regulation and with quality standards demonstrates that standards achieve initial convergence both in terms of product quality and national welfare levels. Extending the one-period analysis to multiple periods, where firm's product quality in the previous period determines current costs, essentially confirms the convergence results of the static case.

This suggests that minimum quality standards applied according to the country-of-origin principle may speed up convergence by supporting those industries that provided products of lower quality in the past. In addition, such standards might advance technological development in all industries. Both effects would lead to welfare gains in all countries and the lagging industries would be even better off in terms of profits than without regulation. For an intermediate period of time, however, standards would imply very high additional costs for these countries.

Does Mutual Recognition of National Minimum Quality Standards Support Regional Convergence?
Stefan Lutz