A critical factor in moving towards sustainable development and innovation

Higher standards are often associated with better consumer protection and quality of life. However, this correlation is not unequivocal, as neither markets nor government regulation work perfectly. This observation is especially true for developing and emerging countries. In this sense, we wonder how a country’s quality infrastructure can best be aligned to contribute to economically sustainable development and the quality of life of its citizens in challenging contexts.

From a company’s point of view, investments in quality must first be considered from a cost-benefit perspective. The efforts to set up a quality management system, and the costs of product and process certifications, calibrations and testing need to be recovered by additional revenues. If customers do not appreciate a specific level of quality or if quality differences between products of different manufacturers are hardly noticeable, there is little point in investing in a quality upgrade. In this case of information asymmetry, even the suppliers of the highest quality are driven out of the market due to the non-remuneration of their quality investments (Akerlof 1970).

Voluntary standards can manage to overcome this problem, at least partially. When companies can put labels on their products indicating specific quality features popular among consumers, they tend to recover their investments in a quality upgrade. Organic or fairtrade certifications of food products are a case in point. The rise of voluntary sustainability standards (VSS) confirms the attractiveness of this approach (Meier et al., 2021).

Investment in quality management is always necessary when customers have specific quality requirements. This often applies to the export of products (see ONAC 2022) and services, where the exporter must meet both the legal requirements of the destination country and those of the trading partner. The same applies to suppliers of large companies in the domestic market and, increasingly, in public procurement in the domestic market, where specific quality criteria must be met. In all these cases, investments in quality management make good business sense.

The use of standards and quality management also helps reduce costs in the company. In a previous blog post (Harmes-Liedtke, U. 2021), I referred to the quality guru Philip Crosby, who considers the costs of non-quality to be fundamentally higher than those of quality management. However, in an empirical study, we found that many Latin American MSMEs lack the knowledge and practice to measure the costs of non-quality. Hence, they tend to exaggerate the costs of certification and other quality assurance measures. This results in forgoing or discontinuing the use of certified quality management systems.

Government programmes promoting quality in enterprises can help overcome underutilization and inefficiencies in quality management for the benefit of MSMEs.

Type of	Positive effects	Negative effects
Compatibility and interoperability	Network externalities Preventing lock-in Increasing variety Efficiency in supply chains	Monopoly power
Minimum quality and safety	Avoiding adverse selection Reducing transaction costs	Raising rivals’ costs
Variety reduction	Economy of scale Critical mass in start-up industries	Reduced choice Market concentration
Information	Facilitating trade Reducing transaction costs	Increase in rival costs

Advanced companies use standardization to gain a competitive advantage through innovation. In this regard, the family of ISO 56000 standards published on innovation management is significant. In the summer of 2019, the International Organization for Standardization (ISO) published the first global standard for innovation management and an innovation management system: ISO 56002. The standard is based on the principles of innovation management and supports companies in using innovations safely and efficiently to increase value. Such a standard is not mandatory. In ISO 56002, seven dimensions are described as necessary structures: organizational context, leadership, planning, support, processes, performance measurement and improvement.

In addition, many MSMEs face the problem of measuring the costs of non-quality, as they also find it difficult to assess the benefits of ex-ante innovation management systems. Again, appropriate support programmes can provide more transparency and reduce transaction costs.

So far, we have mainly discussed the importance and advantages of the voluntary use of standards. But, in addition, governments use mandatory technical specifications in the form of regulations to protect the health and safety of consumers and the environment. The protection of these legitimate objectives is in line with the free trade rules of the World Trade Organisation (WTO).

However, the Achilles heel of mandatory technical regulations is their enforcement. If the state’s capacity for market surveillance is limited, there is a low risk of non-compliance for companies, which saves them investment costs and conformity assessment costs. Mainly companies in the informal sector, which dominates in developing and emerging countries, would be favoured, further limiting the formalization of the economy.

An interesting aspect is that in Colombia, compliance with product standards (such as health certificates and compliance with ICONTEC standards) is considered one of the four types of business formalization. Thus, 73% of companies do not have a sanitary licence, and 92% do not have quality certification (Fernández 2020).

What are the ways out of this undesirable effect of state regulation?

Firstly, incentives for voluntary compliance with quality standards should be increased. This can be achieved by informing and advising companies. At the same time, consumers must also be informed on assessing and recognizing products’ different characteristics and qualities.

Moreover, market surveillance needs to become more effective and efficient. To this end, Good Regulatory Practice (GRP) favours limiting technical regulation to specify products that pose an exceptionally high risk to the health and safety of consumers. Sufficiently competent inspectors and testing facilities are needed to ensure the necessary market surveillance, and companies must be given the freedom to innovate in the way they meet the requirements.

Finally, providers of quality assurance services should strive to offer their services cost-effectively. Orderly competition between accredited conformity assessment services providers would create a conducive environment for their business operation. The digitization of QI would provide additional cost-saving potential.

Ultimately, QI services are aimed at entrepreneurs who follow the paradigm of continuous improvement and constantly seek new business opportunities. The benefits of innovation and quality management must be apparent. In the end, their business success also depends on informed and quality-demanding customers. Hence, a systemic approach addressing a multitude of actors is necessary to further develop the National Quality Infrastructure.

References:

Akerlof, G. A. (1970). “The market for “lemons”: Quality uncertainty in quality and market mechanism.” The Quarterly Journal of Economics, Vol. 84, No. 3. (Aug., 1970), pp. 488-500, https://www.jstor.org/stable/1879431

Blind, K. (2004). The economics of standards. Cheltenham, Elgar 

Fernández, C. (2020). Informalidad empresarial en Colombia (Business informality in Colombia), Bogota, Fededesarrollo, 

Meier, C./ Schlatter, B/ Willer, H. (2021), The State of Sustainable Markets 2021, e-publication

Harmes-Liedtke, U. (2021), Is quality really free? Blog: Talks with Ulrich 

ONAC (2022) Estudio sobre el uso de certificaciones acreditados por ONAC por parte de empresarios colombianos en mercados internacionales (Study on the use of ONNA-accredited certifications by Colombian entrepreneurs in international markets.), Bogotá,