George Akerlof wrote a famous economics paper on the "market for lemons", which took the used car market as an example of where asymmetric information coupled with quality uncertainty leads to market failure and the need for government intervention.
In the paper, used car customers are only willing to pay for average quality, which results in high quality vehicles being unable to attract a sufficiently good price to enter the market. The end result is a race to the bottom in terms of quality with the market ultimately delivering a 'no-trade equilibrium'. The way to avoid this is of course through government regulation that helps to ensure customers of the quality of the vehicle they are purchasing.
This is exactly the rationale behind Defra's proposals to introduce a mandatory MRF code of practice. The recycling industry is an apparently perfect example of where there is asymmetric information between different parts of the supply chain and there is quality uncertainty at point of purchase (beyond crude visual inspection). Good performing MRFs are unable to differentiate themselves from poor ones, and reprocessors are incentivised to pay a price that perversely only attracts lower quality material.
Defra's case for intervention seems compelling. But is that actually the case in the real world?
No prizes for guessing that my personal view is that there isn't in fact a strong case of market failure in recycling markets. Instead I think we are in a game theory world of repeated games and repeated bargaining. In this reality MRFs have a strong incentive to meet customers' quality specifications in order to secure repeat business. This results over time in a market equilibrium where quality is differentiated according to price and there is no need for government intervention. I wonder whether Prof Akerlof would agree.
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