SELLING "CRAP" / THE FINANCIAL TIMES LEX ( RECOMMENDED READING )

Selling “crap”

Published: April 30 2010 09:40

“Your people think it’s a piece of crap and go out and sell it.” So accused Carl Levin, chairman of the Senate’s Permanent Subcommittee on Investigations of naughty boy du jour Lloyd Blankfein. “So what?” the Goldman Sachs boss should have replied. Indeed, the practice of selling sub-standard products is legitimate business, and always will be.

Of course, not everyone is as blatant about it as Gerald Ratner, the jewellery chairman who, in 1991, almost sank his company after saying he owed his success to selling “total crap”. From used-car salesmen to art auction houses, however, shifting the odd lemon is a respected skill years in the training. What is more, premium pricing theory shows that it is possible to make products seem more valuable simply by charging more for them.

Economists know the problem as adverse selection. The risk in buying something that somebody else is trying to sell you lies in asymmetric information. That is why buying antiques is so dangerous – chances are the seller knows a whole lot more about Louis XV chairs than most buyers. Companies are also well aware that the fear of making a bad choice puts potential customers off. Trusted brands, advertising, references, guarantees and so on are all tools to counter the problem of adverse selection.

No wonder Goldman is keen to defend its reputation. But selling crap is no crime per se. If the Securities and Exchange Commission is so against the practice, it should also try to prevent the buying of crap too. But that would wipe out many businesses, including, for example, value-based portfolio managers – responsible for managing the majority of retirement funds in the US – who make a living from buying stocks that others don’t want to touch.

Copyright The Financial Times Limited 2010