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Price competition in markets with customer testing: the captive customer effect
Authors:Heidrun C Hoppe  Ulrich Lehmann-Grube
Institution:1. Department of Economics, University of Hannover, K?nigsworther Platz 1, 30167, Hannover, Germany
Abstract:We introduce product differentiation into the analysis of price competition in markets where suppliers test customers in order to assess whether they will pay for received goods or services. We find that, if the degree of differentiation is sufficiently high, suppliers may improve the average probability that their clientele will pay by charging higher prices. This helps suppliers to sustain high prices in equilibrium. Moreover, endogenizing locations in product space, we demonstrate that the high price level can be implemented in a pure-strategy subgame-perfect equilibrium with a high degree of differentiation. This is in contrast to the original Hotelling model with linear travel costs where a pure-strategy subgame-perfect equilibrium fails to exist.
Keywords:Hotelling  Price competition  Testing  Mixed strategies  Iterated elimination of strictly dominated strategies
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