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Price Floors and Competition

A potential source of instability of many economic models is that agents have little incentive to stick with the equilibrium. We show experimentally that this may matter with price competition. The control variable is a price floor, which increases the cost of deviating from equilibrium. Theoretically the floor allows competitors to obtain higher profits, as low prices are excluded. However, behaviorally the opposite is observed; with a floor competitors receive lower joint profits. An error model (logit equilibrium) captures some but not all the important features of the data. We provide statistical support for a complementary explanation, which refers to how "threatening" an equilibrium is. We discuss the economic import of these findings, concerning matters like resale price maintenance and auction design.

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Paper provided by Stockholm University, Department of Economics in its series Research Papers in Economics with number 2002:13.

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Length: 31 pages
Date of creation: 19 Jun 2002
Date of revision:
Handle: RePEc:hhs:sunrpe:2002_0013
Contact details of provider: Postal: Department of Economics, Stockholm, S-106 91 Stockholm, Sweden
Phone: +46 8 16 20 00
Fax: +46 8 16 14 25
Web page: http://www.ne.su.se/
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  13. McKelvey Richard D. & Palfrey Thomas R., 1995. "Quantal Response Equilibria for Normal Form Games," Games and Economic Behavior, Elsevier, vol. 10(1), pages 6-38, July.
  14. Gladys López-Acevedo, 1997. "Quantal response equilibria for posted offer-markets," Estudios Económicos, El Colegio de México, Centro de Estudios Económicos, vol. 12(2), pages 95-131.
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  18. C. Monica Capra, 1999. "Anomalous Behavior in a Traveler's Dilemma?," American Economic Review, American Economic Association, vol. 89(3), pages 678-690, June.
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