Quality-driven price dispersion: Implications for testing market efficiency

Spatial price dispersion in agricultural markets is often interpreted as evidence of market inefficiencies. Yet, price differences may also reflect variations in product quality, especially where formal grading is absent. This study utilizes a novel dataset of transaction-level paddy rice sales from rural Madagascar, collected in 2022-2023, that includes laboratory-assessed grain quality indicators. By employing hedonic regressions, we construct a composite quality index to quantify how much of the observed cross-regional price variation can be explained by quality differences. We find that quality accounts for only a small share of observed dprice dispersion, and controlling for quality has little impact on conventional measures of market integration. This suggests that buyers may face challenges in accurately assessing quality at the point of sale. In such contexts, buyers appear to rely on village-level reputations as a substitute, with villages known for high-quality rice commanding price premiums that exceed what is explained by observable quality attributes. These results highlight the importance of informal reputation as a substitute for formal quality verification in rural markets and suggest that weak qualityprice linkages may undermine incentives to invest in quality.