Advanced Search
MyIDEAS: Login

When and How Is the Internet Likely to Decrease Price Competition?

Contents:

Author Info

  • Rajiv Lal

    (Harvard Business School, Morgan Hall, Soldier's Field, Boston, Massachusetts, 02163)

  • Miklos Sarvary

    (Harvard Business School, Morgan Hall, Soldier's Field, Boston, Massachusetts, 02163)

Registered author(s):

    Abstract

    Conventional wisdom seems to claim that, by lowering the cost of distribution and by making search easier for consumer, the introduction of the Internet is likely to intensify price competition. This paper intends to challenge this view by asking: When and how is the Internet likely to decrease the level of price competition between firms? To answer this question, we develop an analytic model with the following characteristics. On the demand side, consumers need to gather information on two types of product attributes: (which can be communicated on the Web at very low cost) and (for which physical inspection of the product is necessary). Consumers choose between two brands but are familiar with the nondigital attributes of only the brand purchased on the last purchase occasion. On the supply side, firms use traditional stores and the Internet to inform consumers about their products' attributes and to sell their products. In this setup, we show that the impact of the Internet on competition will be radically different depending on the relative importance of parameters describing the relevant shopping and distribution context. Specifically, we find that the introduction of the Internet might lead to monopoly pricing when (1) the proportion of Internet users is high enough, (2) when nondigital attributes are relevant but not overwhelming, (3) when consumers have a more favorable prior about the brand they currently own, and (4) when the purchase situation can be characterized by “destination shopping”. More surprising, we also show that in such cases, the use of the Internet not only leads to higher prices but can also discourage consumers from engaging in search. As such, an important message of the paper is that under some conditions the Internet might represent an opportunity for firms to leverage their brand loyalty and increase their profits. The intuition behind our results is the following. The Internet allows consumers to evaluate digital attributes easily, i.e., without visiting the stores. However, nondigital attributes can only be evaluated through physical presence. As such, for goods where both types of attributes are important, the introduction of the Net changes the effective cost of search for consumers. Without the Internet the cost of search is . With the introduction of the Net however, nonsearching consumers do not have to undertake the shopping trip at all because they can order products on the Net. Thus, in the presence of the Internet the cost of search is related to . In the case of destination shopping (i.e. when the fixed cost of undertaking the shopping trip is higher than the cost of visiting an additional store), the presence of the Internet creates higher effective search costs for consumers. Given this shift of paradigm in search costs due to the Internet, consumers may not take the risk of searching for products with better nondigital attributes, but instead, remain with the product they are familiar with. This results in increased consumer loyalty, which induces firms to increase their prices. Our results have important managerial implications. First, they provide guidelines for firms on when (i.e. for which product categories) they should consider expanding their distribution network to the Internet. In this respect, an important additional insight of the paper is that the Internet can lower price competition and lead to reduced consumer search if it is more expensive than the traditional distribution channel. This can easily be the case if distribution through the Internet represents additional costs such as the costs associated with shipping and handling and return policies. Second, the paper also provides guidelines on how to plan the firm's Internet strategy. Interestingly, the results suggest that with the general availability of the Internet the role of stores might actually become more important. While we do not explicitly model a dynamic market, our findings together with Klemperer's (1987) results suggest that stores might have a key role in consumer acquisition, while the Internet can help leverage the acquired customer base through demand fulfillment. This might imply that for certain product categories, firms should actually allocate additional resources to improve their in-store environment when considering the Internet as a complementary distribution channel.

    Download Info

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
    File URL: http://dx.doi.org/10.1287/mksc.18.4.485
    Download Restriction: no

    Bibliographic Info

    Article provided by INFORMS in its journal Marketing Science.

    Volume (Year): 18 (1999)
    Issue (Month): 4 ()
    Pages: 485-503

    as in new window
    Handle: RePEc:inm:ormksc:v:18:y:1999:i:4:p:485-503

    Contact details of provider:
    Postal: 7240 Parkway Drive, Suite 300, Hanover, MD 21076 USA
    Phone: +1-443-757-3500
    Fax: 443-757-3515
    Email:
    Web page: http://www.informs.org/
    More information through EDIRC

    Related research

    Keywords: Internet; Consumer Search; Digital/Nondigital Attributes; Competition; Game Theory;

    References

    No references listed on IDEAS
    You can help add them by filling out this form.

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as in new window

    Cited by:
    1. Wagner, Udo & Fritz, Wolfgang, 2001. "Tendenzen marktorientierter Preispolitik im "Electronic Commerce"," Working Papers 01/01, Technische Universität Braunschweig, Institute of Marketing.
    2. Choi, Tsan-Ming & Chow, Pui-Sze & Xiao, Tiaojun, 2012. "Electronic price-testing scheme for fashion retailing with information updating," International Journal of Production Economics, Elsevier, vol. 140(1), pages 396-406.
    3. Charness, Gary & Haruvy, Ernan & Sonsino, Doron, 2007. "Social distance and reciprocity: An Internet experiment," Journal of Economic Behavior & Organization, Elsevier, vol. 63(1), pages 88-103, May.
    4. Häring, Julia, 2003. "Different Prices for Identical Products? Market Efficiency and the Virtual Location in B2C E-Commerce," ZEW Discussion Papers 03-68, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
    5. Yuanzhu Lu & Xiaolin Xing & Fang-Fang Tang, 2008. "Retailers' Incentive to Sell through a New Selling Channel and Pricing Behavior in a Multi-channel Environment," Annals of Economics and Finance, Society for AEF, vol. 9(2), pages 315-343, November.
    6. Punj, Girish & Moore, Robert, 2009. "Information search and consideration set formation in a web-based store environment," Journal of Business Research, Elsevier, vol. 62(6), pages 644-650, June.
    7. Charness, Gary & haruvy, Ernan & Sonsino, Doron, 2001. "Social Distance and Reciprocity: The Internet vs. the Laboratory," University of California at Santa Barbara, Economics Working Paper Series qt3dt073wb, Department of Economics, UC Santa Barbara.
    8. Maarten C.W. Janssen & Rob van der Noll, 2005. "Internet Retailing as a Marketing Strategy," Tinbergen Institute Discussion Papers 05-038/1, Tinbergen Institute.
    9. Robert J. Kauffman & Charles A. Wood, 2007. "Follow the leader: price change timing in Internet-based selling," Managerial and Decision Economics, John Wiley & Sons, Ltd., vol. 28(7), pages 679-700.
    10. Maarten C.W. Janssen & Rob van der Noll, 2005. "Internet Retailing as a Marketing Strategy," Tinbergen Institute Discussion Papers 05-038/1, Tinbergen Institute.
    11. Fahy, Colleen A., 2006. "Internet versus traditional retailing: An address model approach," Journal of Economics and Business, Elsevier, vol. 58(3), pages 240-255.
    12. Michael R. Baye & John Morgan, 2005. "Red Queen Pricing Effects in E-Retail Markets," Working Papers 2005-07, Indiana University, Kelley School of Business, Department of Business Economics and Public Policy.
    13. Lisa Klein, 2002. "Creating Virtual Experiences in Computer-Mediated Environments," Review of Marketing Science Working Papers 1-4-1001, Berkeley Electronic Press.
    14. Patricia Mokhtarian, 2004. "A conceptual analysis of the transportation impacts of B2C e-commerce," Transportation, Springer, vol. 31(3), pages 257-284, August.
    15. Rea, Kenneth & Nwoha, Ogbonnaya John & Kennedy, Gary A. & Watson, Susan, 2006. "Website Usage Information for Rural-Based E-Commerce Start-Ups," 2006 Annual meeting, July 23-26, Long Beach, CA 21478, American Agricultural Economics Association (New Name 2008: Agricultural and Applied Economics Association).
    16. Cai, Gangshu (George) & Zhang, Zhe George & Zhang, Michael, 2009. "Game theoretical perspectives on dual-channel supply chain competition with price discounts and pricing schemes," International Journal of Production Economics, Elsevier, vol. 117(1), pages 80-96, January.
    17. Myung-Soo Lee & Brian Ratchford & Debrabrata Talukdar, 2001. "The Impact of the Internet on Information Search for Automobiles," Review of Marketing Science Working Papers 1-2-1011, Berkeley Electronic Press.
    18. King, Ruth C. & Sen, Ravi & Xia, Mu, 2002. "Impact of Web-Based e-Commerce on Channel Strategy," Working Papers 02-0123, University of Illinois at Urbana-Champaign, College of Business.
    19. Oksana Loginova, 2007. "Real and Virtual Competition," Working Papers 0715, Department of Economics, University of Missouri.
    20. Yan, Ruiliang & Ghose, Sanjoy, 2010. "Forecast information and traditional retailer performance in a dual-channel competitive market," Journal of Business Research, Elsevier, vol. 63(1), pages 77-83, January.
    21. Noble, Stephanie M. & Griffith, David A. & Weinberger, Marc G., 2005. "Consumer derived utilitarian value and channel utilization in a multi-channel retail context," Journal of Business Research, Elsevier, vol. 58(12), pages 1643-1651, December.

    Lists

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    Statistics

    Access and download statistics

    Corrections

    When requesting a correction, please mention this item's handle: RePEc:inm:ormksc:v:18:y:1999:i:4:p:485-503. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Mirko Janc).

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.