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Optimal Pricing And Quality Choice When Investment In Quality Is Irreversible


  • Enrico Pennings


This paper examines the price and quality choice of a single product, risk-neutral monopolist who can delay irreversible investments required for market entry. It is shown that the price and quality she chooses at entry increase with uncertainty about the size of future demand. In a Stackelberg leader-follower game, the leader and follower pre-commit immediately up to a certain level of uncertainty. In this case the leader produces the higher quality good. When uncertainty is higher than this threshold, the follower will wait and enter the market later with a higher quality good. Copyright Blackwell Publishing Ltd. 2004.

Suggested Citation

  • Enrico Pennings, 2004. "Optimal Pricing And Quality Choice When Investment In Quality Is Irreversible," Journal of Industrial Economics, Wiley Blackwell, vol. 52(4), pages 569-589, December.
  • Handle: RePEc:bla:jindec:v:52:y:2004:i:4:p:569-589

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    References listed on IDEAS

    1. Sadanand, Asha & Sadanand, Venkatraman, 1996. "Firm Scale and the Endogenous Timing of Entry: a Choice between Commitment and Flexibility," Journal of Economic Theory, Elsevier, vol. 70(2), pages 516-530, August.
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    6. Spencer, Barbara J. & Brander, James A., 1992. "Pre-commitment and flexibility : Applications to oligopoly theory," European Economic Review, Elsevier, vol. 36(8), pages 1601-1626, December.
    7. Boom, Anette, 1995. "Asymmetric International Minimum Quality Standards and Vertical Differentiation," Journal of Industrial Economics, Wiley Blackwell, vol. 43(1), pages 101-119, March.
    8. Avner Shaked & John Sutton, 1982. "Relaxing Price Competition Through Product Differentiation," Review of Economic Studies, Oxford University Press, vol. 49(1), pages 3-13.
    9. Nalin Kulatilaka & Enrico C. Perotti, 1998. "Strategic Growth Options," Management Science, INFORMS, vol. 44(8), pages 1021-1031, August.
    10. Bart Lambrecht & William Perraudin, 1996. "Real Options and Preemption," Archive Working Papers 026, Birkbeck, Department of Economics, Mathematics & Statistics.
    11. Aoki, Reiko & Prusa, Thomas J., 1997. "Sequential versus simultaneous choice with endogenous quality," International Journal of Industrial Organization, Elsevier, vol. 15(1), pages 103-121, February.
    12. Salim Rashid, 1988. "Quality in Contestable Markets: A Historical Problem?," The Quarterly Journal of Economics, Oxford University Press, vol. 103(1), pages 245-249.
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    Cited by:

    1. Lewis Evans & Graeme Guthrie & Neil Quigley, 2012. "Contemporary Microeconomic Foundations for the Structure and Management of the Public Sector," Treasury Working Paper Series 12/01, New Zealand Treasury.
    2. Tamini, Lota Dabio, 2012. "Optimal quality choice under uncertainty on market development," Working Papers 148589, Structure and Performance of Agriculture and Agri-products Industry (SPAA).
    3. Grzegorz Pawlina & Peter M. Kort, 2010. "Strategic Quality Choice Under Uncertainty: A Real Options Approach," Manchester School, University of Manchester, vol. 78(1), pages 1-19, January.
    4. Tamini, Lota D., 2012. "Optimal quality choice under uncertainty on market development," MPRA Paper 40845, University Library of Munich, Germany.
    5. Vincenzo Atella & Jay Bhattacharya & Lorenzo Carbonari, 2008. "Pharmaceutical Industry, Drug Quality and Regulation: Evidence from US and Italy," NBER Working Papers 14567, National Bureau of Economic Research, Inc.
    6. Li, Shuai & Cai, Hubo, 2017. "Government incentive impacts on private investment behaviors under demand uncertainty," Transportation Research Part E: Logistics and Transportation Review, Elsevier, vol. 101(C), pages 115-129.
    7. Chevalier-Roignant, Benoît & Flath, Christoph M. & Huchzermeier, Arnd & Trigeorgis, Lenos, 2011. "Strategic investment under uncertainty: A synthesis," European Journal of Operational Research, Elsevier, vol. 215(3), pages 639-650, December.
    8. Asano, Takao & Shibata, Akihisa, 2011. "Optimal pricing and quality choice of a monopolist under Knightian uncertainty," International Journal of Industrial Organization, Elsevier, vol. 29(6), pages 746-754.
    9. Emanuele Bacchiega, 2007. "Wage bargaining and vertical differentiation," International Review of Economics, Springer;Happiness Economics and Interpersonal Relations (HEIRS), vol. 54(1), pages 35-52, March.
    10. Kamoto, Shinsuke, 2015. "Strategic capacity expansion under a potential entry threat," International Review of Economics & Finance, Elsevier, vol. 38(C), pages 157-177.

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