Advanced Search
MyIDEAS: Login to save this paper or follow this series

Selling Substitute Goods to Loss-Averse Consumers: Limited Availability, Bargains and Rip-offs

Contents:

Author Info

  • Rosato, Antonio

Abstract

Why are some sale items subject to limited availability while other substitute items are available in large quantities and are priced relatively high at the same point in time? Can such a retail strategy lure consumers into purchasing the more expensive item? This paper characterizes the profit-maximizing pricing and product-availability strategies for a retailer selling two substitute goods to loss-averse consumers and shows that limited-availability sales can manipulate consumers into an ex-ante unfavorable purchase. Consumers have unit demand, are interested in buying only one good, and their reference point is given by their recent rational expectations about what consumption value they would receive and what price they would pay. The seller maximizes profits by raising the consumers' reference point through a tempting discount on a good available only in limited supply (the bargain) and cashing in with a high price on the other good (the rip-off), which the consumers buy if the bargain is not available to minimize their disappointment. The seller might prefer to offer a deal on the more valuable product, using it as a bait, because consumers feel a larger loss, in terms of forgone consumption, if this item is not available. I also show that the bargain item can be a loss leader, that the seller's product line is not welfare-maximizing and that she might supply a socially wasteful product. The model suggests that the current FTC Guides Against Bait Advertising, by allowing retailers to employ limited-availability sales, could reduce consumer and social welfare.

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://mpra.ub.uni-muenchen.de/47168/
File Function: original version
Download Restriction: no

Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 47168.

as in new window
Length:
Date of creation: 2013
Date of revision:
Handle: RePEc:pra:mprapa:47168

Contact details of provider:
Postal: Schackstr. 4, D-80539 Munich, Germany
Phone: +49-(0)89-2180-2219
Fax: +49-(0)89-2180-3900
Web page: http://mpra.ub.uni-muenchen.de
More information through EDIRC

Related research

Keywords: Retail Pricing; Reference-Dependent Preferences; Loss Aversion; Limited Availability; Bait and Switch; Loss Leaders.;

Find related papers by JEL classification:

This paper has been announced in the following NEP Reports:

References

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
as in new window
  1. Johannes Abeler & Armin Falk & Lorenz Goette & David Huffman, 2011. "Reference Points and Effort Provision," American Economic Review, American Economic Association, American Economic Association, vol. 101(2), pages 470-92, April.
  2. Karle, Heiko & Peitz, Martin, 2012. "Competition under Consumer Loss Aversion," Working Papers, University of Mannheim, Department of Economics 12-08, University of Mannheim, Department of Economics.
  3. Rey, Patrick & Chen, Zhijun, 2010. "Loss Leading as an Exploitative Practice," TSE Working Papers, Toulouse School of Economics (TSE) 10-218, Toulouse School of Economics (TSE), revised Dec 2011.
  4. Eitan Gerstner & James D. Hess, 1990. "Can Bait and Switch Benefit Consumers?," Marketing Science, INFORMS, INFORMS, vol. 9(2), pages 114-124.
  5. Weinstein, Jonathan & Ambrus, Attila, 2008. "Price Dispersion and Loss Leaders," Scholarly Articles 4589708, Harvard University Department of Economics.
  6. Crawford, Vincent P. & Meng, Juanjuan, 2008. "New York City Cabdrivers' Labor Supply Revisited: Reference-Dependence Preferences with Rational-Expectations Targets for Hours and Income," University of California at San Diego, Economics Working Paper Series, Department of Economics, UC San Diego qt94w5n6j9, Department of Economics, UC San Diego.
  7. James D. Hess & Eitan Gerstner, 1987. "Loss Leader Pricing and Rain Check Policy," Marketing Science, INFORMS, INFORMS, vol. 6(4), pages 358-374.
  8. Gregory Pavlov, 2010. "Optimal Mechanism for Selling Two Goods," UWO Department of Economics Working Papers, University of Western Ontario, Department of Economics 20103, University of Western Ontario, Department of Economics.
  9. Volker Nocke & Martin Peitz, 2007. "A Theory of Clearance Sales," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 117(522), pages 964-990, 07.
  10. Raymond J. Deneckere & R. Preston McAfee, 1996. "Damaged Goods," Journal of Economics & Management Strategy, Wiley Blackwell, Wiley Blackwell, vol. 5(2), pages 149-174, 06.
  11. DeGraba, Patrick, 2006. "The loss leader is a turkey: Targeted discounts from multi-product competitors," International Journal of Industrial Organization, Elsevier, Elsevier, vol. 24(3), pages 613-628, May.
  12. Heiko Karle, 2013. "Creating Attachment through Advertising: Loss Aversion and Pre–Purchase Information," CER-ETH Economics working paper series 13/177, CER-ETH - Center of Economic Research (CER-ETH) at ETH Zurich.
  13. Gill, David & Prowse, Victoria L., 2009. "A Structural Analysis of Disappointment Aversion in a Real Effort Competition," IZA Discussion Papers 4536, Institute for the Study of Labor (IZA).
  14. Laibson, David I. & Gabaix, Xavier, 2006. "Shrouded Attributes, Consumer Myopia, and Information Suppression in Competitive Markets," Scholarly Articles 4554333, Harvard University Department of Economics.
  15. Matthew Rabin, 2006. "A Model of Reference-Dependent Preferences," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 121(4), pages 1133-1165, November.
  16. Emi Nakamura & Jón Steinsson, 2008. "Five Facts about Prices: A Reevaluation of Menu Cost Models," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 123(4), pages 1415-1464, November.
  17. Vincent P. Crawford & Juanjuan Meng, 2011. "New York City Cab Drivers' Labor Supply Revisited: Reference-Dependent Preferences with Rational-Expectations Targets for Hours and Income," American Economic Review, American Economic Association, American Economic Association, vol. 101(5), pages 1912-32, August.
  18. Kfir Eliaz & Ran Spiegler, 2013. "Reference Dependence and Labor Market Fluctuations," NBER Chapters, in: NBER Macroeconomics Annual 2013, Volume 28, pages 159-200 National Bureau of Economic Research, Inc.
  19. Michael D. Grubb, 2006. "Selling to Overconfident Consumers," Discussion Papers, Stanford Institute for Economic Policy Research 06-018, Stanford Institute for Economic Policy Research.
  20. Juan Carlos Carbajal & Jeffrey C. Ely, 2012. "Optimal Contracts for Loss Averse Consumers," Discussion Papers Series 460, School of Economics, University of Queensland, Australia.
  21. Andrew F. Daughety & Jennifer F. Reinganum, 1991. "Endogenous Availability in Search Equilibrium," RAND Journal of Economics, The RAND Corporation, vol. 22(2), pages 287-306, Summer.
  22. Glenn Ellison, 2003. "A Model of Add-on Pricing," NBER Working Papers 9721, National Bureau of Economic Research, Inc.
  23. Emi Nakamura, 2008. "Pass-Through in Retail and Wholesale," American Economic Review, American Economic Association, American Economic Association, vol. 98(2), pages 430-37, May.
  24. Edward P. Lazear, 1984. "Retail Pricing and Clearance Sales," NBER Working Papers 1446, National Bureau of Economic Research, Inc.
  25. Thanassoulis, John, 2004. "Haggling over substitutes," Journal of Economic Theory, Elsevier, Elsevier, vol. 117(2), pages 217-245, August.
  26. Eliaz, Kfir & Spiegler, Ran, 2004. "Contracting with Diversely Naive Agents," CEPR Discussion Papers, C.E.P.R. Discussion Papers 4573, C.E.P.R. Discussion Papers.
  27. Pashigian, B Peter & Bowen, Brian, 1991. "Why Are Products Sold on Sale? Explanations of Pricing Regularities," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 106(4), pages 1015-38, November.
  28. Dana, James D, Jr, 2001. "Monopoly Price Dispersion under Demand Uncertainty," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 42(3), pages 649-70, August.
  29. Christopher T. Conlon & Julie Holland Mortimer, 2010. "Effects of Product Availability: Experimental Evidence," Boston College Working Papers in Economics, Boston College Department of Economics 798, Boston College Department of Economics.
  30. Loomes, Graham & Sugden, Robert, 1986. "Disappointment and Dynamic Consistency in Choice under Uncertainty," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 53(2), pages 271-82, April.
  31. Peter E. Rossi & Judith A. Chevalier & Anil K. Kashyap, 2002. "Why Don't Prices Rise During Periods of Peak Demand? Evidence from Scanner Data," Yale School of Management Working Papers, Yale School of Management ysm291, Yale School of Management.
  32. Ori Heffetz & John A. List, 2011. "Is the Endowment Effect a Reference Effect?," NBER Working Papers 16715, National Bureau of Economic Research, Inc.
  33. Amos Tversky & Daniel Kahneman, 1979. "Prospect Theory: An Analysis of Decision under Risk," Levine's Working Paper Archive 7656, David K. Levine.
  34. Spiegler, Ran, 2014. "Bounded Rationality and Industrial Organization," OUP Catalogue, Oxford University Press, Oxford University Press, number 9780199334261, October.
  35. Zhou, Jidong, 2008. "Reference Dependence and Market Competition," MPRA Paper 9370, University Library of Munich, Germany.
  36. Fabian Herweg & Daniel Müller & Philipp Weinschenk, 2010. "Binary Payment Schemes: Moral Hazard and Loss Aversion," Working Paper Series of the Max Planck Institute for Research on Collective Goods, Max Planck Institute for Research on Collective Goods 2010_38, Max Planck Institute for Research on Collective Goods.
  37. Roland Strausz, 2007. "Regulating Availability with Demand Uncertainty," German Economic Review, Verein für Socialpolitik, Verein für Socialpolitik, vol. 8, pages 107-121, 02.
  38. Lal, Rajiv & Matutes, Carmen, 1994. "Retail Pricing and Advertising Strategies," The Journal of Business, University of Chicago Press, vol. 67(3), pages 345-70, July.
  39. Emir Kamenica, 2008. "Contextual Inference in Markets: On the Informational Content of Product Lines," American Economic Review, American Economic Association, American Economic Association, vol. 98(5), pages 2127-49, December.
  40. Scott Fay & Jinhong Xie, 2008. "Probabilistic Goods: A Creative Way of Selling Products and Services," Marketing Science, INFORMS, INFORMS, vol. 27(4), pages 674-690, 07-08.
  41. Steven Salop & Joseph Stiglitz, 1977. "Bargains and ripoffs: a model of monopolistically competitive price dispersion," Special Studies Papers 94, Board of Governors of the Federal Reserve System (U.S.).
  42. Weinstein, Jonathan & Ambrus, Attila, 2008. "Price dispersion and loss leaders," Theoretical Economics, Econometric Society, Econometric Society, vol. 3(4), December.
  43. Michael Sandfort & Hideo Konishi, 2000. "Expanding Demand through Price Advertisement," Boston College Working Papers in Economics, Boston College Department of Economics 453, Boston College Department of Economics, revised 21 Jun 2001.
  44. Tversky, Amos & Kahneman, Daniel, 1991. "Loss Aversion in Riskless Choice: A Reference-Dependent Model," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 106(4), pages 1039-61, November.
  45. Patrick DeGraba, 1995. "Buying Frenzies and Seller-Induced Excess Demand," RAND Journal of Economics, The RAND Corporation, vol. 26(2), pages 331-342, Summer.
  46. Karle, Heiko & Kirchsteiger, Georg & Peitz, Martin, 2012. "Loss Aversion and Consumption Choice: Theory and Experimental Evidence," CEPR Discussion Papers, C.E.P.R. Discussion Papers 9183, C.E.P.R. Discussion Papers.
  47. Fitzsimons, Gavan J, 2000. " Consumer Response to Stockouts," Journal of Consumer Research, University of Chicago Press, University of Chicago Press, vol. 27(2), pages 249-66, September.
  48. Dana, James D, Jr, 2001. "Competition in Price and Availability When Availability is Unobservable," RAND Journal of Economics, The RAND Corporation, vol. 32(3), pages 497-513, Autumn.
  49. Botond Koszegi & Matthew Rabin, 2007. "Reference-Dependent Risk Attitudes," American Economic Review, American Economic Association, American Economic Association, vol. 97(4), pages 1047-1073, September.
  50. Ariel Rubinstein & Ran Spiegler, 2008. "Money Pumps in the Market," Journal of the European Economic Association, MIT Press, MIT Press, vol. 6(1), pages 237-253, 03.
  51. Paul Klemperer & A. Jorge Padilla, 1997. "Do Firms' Product Lines Include Too Many Varieties?," RAND Journal of Economics, The RAND Corporation, vol. 28(3), pages 472-488, Autumn.
  52. Eric T. Anderson & Gavan J. Fitzsimons & Duncan Simester, 2006. "Measuring and Mitigating the Costs of Stockouts," Management Science, INFORMS, INFORMS, vol. 52(11), pages 1751-1763, November.
  53. Stefano Della Vigna & Ulrike Malmendier, 2004. "Contract Design and Self-control: Theory and Evidence," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 119(2), pages 353-402, May.
  54. Spiegler, Ran, 2010. "Monopoly Pricing when Consumers are Antagonized by Unexpected Price Increases: A "Cover Version" of the Heidhues-Koszegi-Rabin Model," MPRA Paper 21429, University Library of Munich, Germany.
  55. Botond KÅ‘szegi, 2010. "Utility from anticipation and personal equilibrium," Economic Theory, Springer, Springer, vol. 44(3), pages 415-444, September.
  56. Kohei Daido & Takeshi Murooka, 2011. "Team Incentives and Reference-Dependent Preferences," Discussion Paper Series, School of Economics, Kwansei Gakuin University 70, School of Economics, Kwansei Gakuin University, revised May 2011.
  57. Pashigian, B Peter, 1988. "Demand Uncertainty and Sales: A Study of Fashion and Markdown Pricin g," American Economic Review, American Economic Association, American Economic Association, vol. 78(5), pages 936-53, December.
  58. Kahneman, Daniel & Knetsch, Jack L & Thaler, Richard H, 1990. "Experimental Tests of the Endowment Effect and the Coase Theorem," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 98(6), pages 1325-48, December.
  59. Lazear, Edward P, 1995. "Bait and Switch," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 103(4), pages 813-30, August.
  60. Ravi Anupindi & Maqbool Dada & Sachin Gupta, 1998. "Estimation of Consumer Demand with Stock-Out Based Substitution: An Application to Vending Machine Products," Marketing Science, INFORMS, INFORMS, vol. 17(4), pages 406-423.
  61. Lange, Andreas & Ratan, Anmol, 2010. "Multi-dimensional reference-dependent preferences in sealed-bid auctions - How (most) laboratory experiments differ from the field," Games and Economic Behavior, Elsevier, Elsevier, vol. 68(2), pages 634-645, March.
  62. Spiegler, Ran, 2006. "Competition over agents with boundedly rational expectations," Theoretical Economics, Econometric Society, Econometric Society, vol. 1(2), pages 207-231, June.
  63. Herweg, Fabian & Müller, Daniel & Weinschenk, Philipp, 2010. "Binary payment schemes: Moral hazard and loss aversion," Munich Reprints in Economics, University of Munich, Department of Economics 19450, University of Munich, Department of Economics.
  64. Katz, Barbara G & Nelson, Julianne, 1990. "Product Availability as a Strategic Variable: The Implications of Regulating Retailer Stockouts," Journal of Regulatory Economics, Springer, Springer, vol. 2(4), pages 379-95, December.
  65. Varian, Hal R, 1980. "A Model of Sales," American Economic Review, American Economic Association, American Economic Association, vol. 70(4), pages 651-59, September.
  66. Zhou, Jidong, 2011. "Multiproduct search," MPRA Paper 37139, University Library of Munich, Germany.
  67. Keith M. Marzilli Ericson & Andreas Fuster, 2011. "Expectations as Endowments: Evidence on Reference-Dependent Preferences from Exchange and Valuation Experiments," The Quarterly Journal of Economics, Oxford University Press, vol. 126(4), pages 1879-1907.
  68. Eliaz, Kfir & Spiegler, Ran, 2008. "Consumer optimism and price discrimination," Theoretical Economics, Econometric Society, Econometric Society, vol. 3(4), December.
  69. repec:hrv:faseco:4685158 is not listed on IDEAS
  70. Subramanian Balachander & Peter H. Farquhar, 1994. "Gaining More by Stocking Less: A Competitive Analysis of Product Availability," Marketing Science, INFORMS, INFORMS, vol. 13(1), pages 3-22.
  71. Gul, Faruk, 1991. "A Theory of Disappointment Aversion," Econometrica, Econometric Society, Econometric Society, vol. 59(3), pages 667-86, May.
  72. Botond KÅ‘szegi & Paul Heidhues, 2008. "Competition and Price Variation When Consumers Are Loss Averse," American Economic Review, American Economic Association, American Economic Association, vol. 98(4), pages 1245-68, September.
  73. Daniel Kahneman & Jack L. Knetsch & Richard H. Thaler, 1991. "Anomalies: The Endowment Effect, Loss Aversion, and Status Quo Bias," Journal of Economic Perspectives, American Economic Association, vol. 5(1), pages 193-206, Winter.
  74. Botond Koszegi & Matthew Rabin, 2009. "Reference-Dependent Consumption Plans," American Economic Review, American Economic Association, American Economic Association, vol. 99(3), pages 909-36, June.
Full references (including those not matched with items on IDEAS)

Citations

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

Cited by:
  1. Pagel, Michaela, 2012. "Expectations-Based Reference-Dependent Preferences and Asset Pricing," MPRA Paper 47933, University Library of Munich, Germany.
  2. Pagel, Michaela, 2013. "Expectations-Based Reference-Dependent Life-Cycle Consumption," MPRA Paper 47138, University Library of Munich, Germany.
  3. In, Younghwan & Wright, Julian, 2014. "Loss-leader pricing and upgrades," Economics Letters, Elsevier, Elsevier, vol. 122(1), pages 19-22.
  4. Fabian Herweg & Heiko Karle & Daniel Müller, 2014. "Incomplete Contracting, Renegotiation, and Expectation-Based Loss Aversion," CESifo Working Paper Series 4687, CESifo Group Munich.

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:pra:mprapa:47168. 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: (Ekkehart Schlicht).

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.