Differentiated networks: equilibrium and efficiency

We consider a model of price competition in a duopoly with product differentiation and network effects. In the efficient allocation, both networks are active and the firm with the highest expected quality has the largest market share. To characterize the equilibrium allocation, we derive necessary and sufficient conditions for uniqueness of the equilibrium of the coordination game played by consumers for given prices. The equilibrium allocation differs from the efficient one for two reasons. First, the equilibrium allocation of consumers to the networks is too balanced, because consumers fail to internalize network externalities. Second, if access to the networks is priced by strategic firms, then the product with the highest expected quality is also the most expensive. This further reduces the asymmetry between market shares and therefore social welfare.     

Avoiding market dominance: product compatibility in markets with network effects

As is well recognized, market dominance is a typical outcome in markets with network effects. A firm with a larger installed base offers a more attractive product which induces more consumers to buy its product which produces a yet bigger installed base advantage. Such a setting is investigated here but with the main difference that firms have the option of making their products compatible. When firms have similar installed bases, they make their products compatible in order to expand the market. Nevertheless, random forces could result in one firm having a bigger installed base, in which case the larger firm may make its product incompatible. We find that strategic pricing tends to prevent the installed base differential from expanding to the point that incompatibility occurs. This pricing dynamic is able to neutralize increasing returns and avoid the emergence of market dominance.     

Market forces meet behavioral biases: cost misallocation and irrational pricing

Psychological and experimental evidence, as well as a wealth of anecdotal examples, suggests that firms may confound fixed, sunk, and variable costs, leading to distorted pricing decisions. This article investigates the extent to which market forces and learning eventually eliminate these distortions. We envision firms that experiment with cost methodologies that are consistent with real‐world accounting practices, including ones that confuse the relevance of variable, fixed, and sunk costs to pricing decisions. Firms follow “naive” adaptive learning to adjust prices and reinforcement learning to modify their costing methodologies. Costing and pricing practices that increase profits are reinforced. In some market structures, but not in others, this process of reinforcement causes pricing practices of all firms to systematically depart from standard equilibrium predictions.     

Strategic price complexity in retail financial markets

There is mounting empirical evidence to suggest that the law of one price is violated in retail financial markets: there is significant price dispersion even when products are homogeneous. Also, despite the large number of firms in the market, prices remain above marginal cost and may even rise as more firms enter. In a non-cooperative oligopoly pricing model, I show that these anomalies arise when firms add complexity to their price structures. Complexity increases the market power of the firms because it prevents some consumers from becoming knowledgeable about prices in the market. In the model, as competition increases, firms tend to add more complexity to their prices as a best response, rather than make their disclosures more transparent. Because this may substantially decrease consumer surplus in these markets, such practices have important welfare implications.     

Oligopolistic markets with sequential search and production cost uncertainty

This article analyzes a sequential search model where firms face identical but stochastic production costs, the realizations of which are unknown to consumers. We characterize a perfect Bayesian equilibrium satisfying a reservation price property and provide a sufficient condition for such an equilibrium to exist. We show that (i) firms set on average higher prices and make larger profits compared to the scenario where consumers observe production costs, (ii) expected prices and consumer welfare can be non‐monotonic in the number of firms, and (iii) the impact of production cost uncertainty vanishes as the number of firms becomes very large.     

Dynamic limit pricing

I study a multiperiod model of limit pricing under one‐sided incomplete information. I characterize pooling and separating equilibria and their existence and determine when these involve limit pricing. For some parameter constellations, the unique equilibrium surviving a D1 type refinement involves immediate separation on monopoly prices. For others, there are limit price equilibria surviving the refinement in which different types may initially pool and then (possibly) separate. Separation involves setting prices such that the inefficient incumbent's profits from mimicking are negative. As the horizon increases or as firms become more patient, limit pricing becomes increasingly difficult to sustain in equilibrium.     

Risk Mutualization and Competition in Insurance Markets

The aim of this paper is to analyze the impact of mutual firms on competition in the insurance market. We distinguish two actors in this market: mutual firms, which belong to their pooled members, and traditional companies, which belong to their shareholders. Our approach differs from the literature by one crucial assumption: the expected utility of the consumers depends on the size of their insurance firm, which generates network externalities in this market. Thus, the choice of a contract results in a trade-off between the premium level and the probability of that premium being ex-post adjusted. The optimal contract offered by a mutual firm involves a systematic ex-post adjustment (negative or positive), while the contracts a company offers imply a fixed premium that is possibly negatively adjusted at the end of the contractual period. In an oligopoly game, we show that three types of configurations are possible at equilibrium: either one mutual firm or insurance company is active, or a mixed structure emerges in which two or more companies share the market with or without a mutual firm.     

Market share and price rigidity

Survey evidence shows that the main reason why firms keep prices stable is that they are concerned about losing customers or market share. We construct a general equilibrium model in which firms care about the size of their customer base. Firms and customers form long-term relationships because consumers incur costs to switch sellers. In an environment with sectoral productivity shocks, we show that cost pass-through is a non-monotonic function of the size of switching costs. Specifically, prices tend to become more stable as the fraction of repeat customers increases and the elasticity of the customer base falls.     

The Quality and Price of Investment Banks’ Service: Evidence from the PIPE Market

We investigate the market structure and the pricing by placement agents of private investments in public equities (PIPEs). Our findings indicate that more reputable agents are associated with larger offers and with firms possessing lower risk. Agent reputation is positively associated with lower discounts and an enhanced post-PIPE trading environment. Issuers pay a higher dollar fee for these benefits, although more reputable agents charge a lower percentage fee. The evidence suggests that it is the quality of the issuing firm, and the pricing and reputational concern of the placement agent, that drives the equilibrium in the PIPE market.     

Long‐run price competition

We generalize the standard repeated‐games model of dynamic oligopolistic competition to allow for consumers who are long‐lived and forward looking. Each period leaves some residual demand to future periods and pricing in one period affects consumers' expectations about future prices. We analyze this setting for an indivisible durable good with price‐setting firms and overlapping cohorts of consumers. The model nests the repeated‐game model and the Coasian durable‐goods model as its two extreme cases. The analysis is mostly focused on constant‐price collusion but conditions for collusive recurrent sales are also identified.     

A search cost model of obfuscation

This article develops models in which obfuscation is individually rational for oligopolistic firms. Firms sell a homogeneous good to rational consumers who incur search costs to learn prices. Search costs are endogenized by allowing obfuscation—firms have an unobservable action that increases the time needed to learn their price. One model involves search costs convex in shopping time. We show that slight convexity can dramatically alter the equilibrium price distribution. A second model examines an informational linkage between current and future search costs: consumers are uncertain about a component of search costs. Here, a signal‐jamming mechanism can lead to equilibrium obfuscation.     

To Invest or not to Invest: A real options approach to FDIs and tax competition

Foreign investment decisions of firms are often characterized by investment irreversibility, uncertainty, and the ability to choose the optimal timing of foreign investments. We embed these characteristics into a real option theory framework to analyze international competition among countries to attract mobile investments when firms, after the investment is sunk, can shift profit to low tax countries by transfer pricing. We find that an increase in the uncertainty of profit income reduces the equilibrium tax rates, whilst lower investment costs or larger profits, counteracts the negative fiscal externality of tax competition leading to higher equilibrium tax rates. JEL Code H25     

Social learning with differentiated products

Learning from friends is a key process by which consumers acquire information about available products. This article embeds social learning in a model of firms producing differentiated products. I consider how the structure of social relationships between consumers influences pricing and welfare. In particular, how a variety of characteristics of social networks ‐ distribution of friendships, homophily, clustering, and correlations between an individual's preferences and number of friends ‐ influence these outcomes. I also find conditions under which consumer awareness and the sensitivity of demand to prices are useful measures of the informational efficiency of markets.     

Targeted advertising and advertising avoidance

I examine how the increasing ability of firms to target their ads influences market outcomes when consumers have access to advertising‐avoidance tools. Although firms generally benefit from improved targeting, consumers need not. I also show that there may be too little blocking of ads in equilibrium and consider the role of targeted advertising when niche firms compete against mass‐market firms.     

De-branching,too-much-branching,and cost of debt of SMEs in Slovakia

We investigate nonlinear effects of bank branch saturation on SMEs' cost of debt at regional level in Slovakia over the period 2013–2019. We adopt the two-step approach by first constructing model of bank branch localization, and then analyzing effects of positive and negative deviations from the equilibrium level. We observe negative effect of debranching, but report no effect of positive increase in deviations from equilibrium level on SMEs' cost of debt. The most affected firms are middle-sized, domestically owned, operating in low-tech industries, and with better creditworthiness. Bank market characteristics also tend to matter for pricing of firm's debt.     

Strategic transfer pricing,absorption costing,and observability

This paper analyses the use of transfer pricing as a strategic device in divisionalized firms facing duopolistic price competition. When transfer prices are observable, both firms’ headquarters will charge a transfer price above the marginal cost of the intermediate product to induce their marketing managers to behave as softer competitors in the final product market. When transfer prices are not observable, strategic transfer pricing is not an equilibrium and the optimal transfer price equals the marginal cost of the intermediate product. As a strategic alternative, however, the firms can signal the use of transfer prices above marginal cost to their competitors by a publicly observable commitment to an absorption costing system. The paper identifies conditions under which the choice of absorption costing is a dominant strategy equilibrium.     

Dynamic pricing: when to entice brand switching and when to reward consumer loyalty

This article develops a theory of dynamic pricing in which firms may offer separate prices to different consumers based on their past purchases. Brand preferences over two periods are described by a copula admitting various degrees of positive dependence. When commitment to future prices is infeasible, each firm offers lower prices to its rival's customers. When firms can commit to future prices, consumer loyalty is rewarded if preference dependence is low, but enticing brand switching occurs if preference dependence is high. Our theory provides a unified treatment of the two pricing policies and sheds light on observed practices across industries.     

The pricing and performance of IPOs in China’s poor counties

In the context of China’s drive to alleviate poverty, we focus on the initial public offering (IPO) firms located in China’s poor counties and investigate their IPO pricing and post-IPO performance. Contrary to the findings reported for the U.S., we find that the problem of information asymmetry between Chinese firms located in rural areas and their investors is so severe that these IPO firms are associated with significantly higher underpricing. This effect is more pronounced for firms located in rural areas with poor traffic systems. We do not find significant market performance differences between rural and urban firms after their IPOs, but the operating performance of rural firms improves in the short term. Our additional analyses indicate that rural IPO firms have significantly lower investor attention and higher agency costs than urban firms. Overall, we enrich the literature on IPO pricing and the economic effects of geographic location.     

Banks,firms and the relative pricing of tax-exempt and taxable bonds

The traditional analysis of the relative pricing of tax-exempt and taxable debt is a habitat theory of the term structure of interest rates. In the traditional analysis the preferences of investors for particular maturities of debt lead to unique pricing relations at every point on the yield curve which are indicative of investor marginal tax brackets. Recent work by Fama (1977) suggests that banks are potential arbitrageurs across tax-exempt and taxable bond markets which force a particular equilibrium on the pricing of short-term bonds. Miller (1977) suggests that the choice of debt or equity financing by firms in the aggregate forces a similar equilibrium on the pricing of all tax-exempt and taxable bonds. This paper exploits the institution of Regulation Q and its effects on the banking system to bring evidence to bear on the predictions of these three models.