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A Model of Recommended Retail Prices

  • Dmitry Lubensky

    (Department of Business Economics and Public Policy, Indiana University Kelley School of Business)

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    Consumers rely on a manufacturer's recommended price to help determine whether to accept a retailer's price or continue to search. This paper demonstrates that doing so can be rational even if the manufacturer's price recommendation is cheap talk. By incentivizing search, a manufacturer trades off reducing double marginalization and losing consumers to competitors. When the manufacturer's cost is low he induces low retail prices and benefits when consumers search more. When the manufacturer's cost is high he induces high retail prices and benefits when consumers search less. Since consumers prefer to search more when lower prices are available, their incentives are aligned with the manufacturer's and this allows informative cheap talk communication. Aside from costs, the manufacturer can inform consumers of other market parameters such as product quality.

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    File URL: http://kelley.iu.edu/riharbau/RePEc/iuk/wpaper/bepp2013-14-lubensky.pdf
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    Paper provided by Indiana University, Kelley School of Business, Department of Business Economics and Public Policy in its series Working Papers with number 2013-14.

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    Date of creation: Dec 2013
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    Handle: RePEc:iuk:wpaper:2013-14
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    1. Stefan Buehler & Dennis L. Gärtner, 2010. "Making Sense of Non-Binding Retail-Price Recommendations," CESifo Working Paper Series 3024, CESifo Group Munich.
    2. Michael Rothschild, 1974. "Searching for the Lowest Price When the Distribution of Prices Is Unknown: A Summary," NBER Chapters, in: Annals of Economic and Social Measurement, Volume 3, number 1, pages 293-294 National Bureau of Economic Research, Inc.
    3. Milgrom, Paul & Roberts, John, 1986. "Price and Advertising Signals of Product Quality," Journal of Political Economy, University of Chicago Press, vol. 94(4), pages 796-821, August.
    4. Wolinsky, Asher, 1986. "True Monopolistic Competition as a Result of Imperfect Information," The Quarterly Journal of Economics, MIT Press, vol. 101(3), pages 493-511, August.
    5. Horowitz, Joel L, 1992. "The Role of the List Price in Housing Markets: Theory and an Econometric Model," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 7(2), pages 115-29, April-Jun.
    6. Maria Arbatskaya, 2007. "Ordered search," RAND Journal of Economics, RAND Corporation, vol. 38(1), pages 119-126, 03.
    7. V. Crawford & J. Sobel, 2010. "Strategic Information Transmission," Levine's Working Paper Archive 544, David K. Levine.
    8. Mark Armstrong & John Vickers & Jidong Zhou, 2009. "Prominence and consumer search," RAND Journal of Economics, RAND Corporation, vol. 40(2), pages 209-233.
    9. Berry, Steven & Levinsohn, James & Pakes, Ariel, 1995. "Automobile Prices in Market Equilibrium," Econometrica, Econometric Society, vol. 63(4), pages 841-90, July.
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    11. Babur De los Santos & In Kyung Kim & Dmitry Lubensky, 2013. "Do MSRPs Decrease Prices?," Working Papers 2013-13, Indiana University, Kelley School of Business, Department of Business Economics and Public Policy.
    12. G.F. Mathewson & R.A. Winter, 1984. "An Economic Theory of Vertical Restraints," RAND Journal of Economics, The RAND Corporation, vol. 15(1), pages 27-38, Spring.
    13. Rothschild, Michael, 1974. "Searching for the Lowest Price When the Distribution of Prices Is Unknown," Journal of Political Economy, University of Chicago Press, vol. 82(4), pages 689-711, July/Aug..
    14. Clemens Puppe & Stephanie Rosenkranz, 2011. "Why Suggest Non‐Binding Retail Prices?," Economica, London School of Economics and Political Science, vol. 78(310), pages 317-329, 04.
    15. Huanxing Yang & Lixin Ye, 2008. "Search with learning: understanding asymmetric price adjustments," RAND Journal of Economics, RAND Corporation, vol. 39(2), pages 547-564.
    16. Diamond, Peter A., 1971. "A model of price adjustment," Journal of Economic Theory, Elsevier, vol. 3(2), pages 156-168, June.
    17. Mariano Tappata, 2009. "Rockets and feathers: Understanding asymmetric pricing," RAND Journal of Economics, RAND Corporation, vol. 40(4), pages 673-687.
    18. John Thanassoulis & David Gill, 2010. "The Optimal Marketing Mix of Posted Prices, Discounts and Bargaining," Economics Series Working Papers 479, University of Oxford, Department of Economics.
    19. Marco A. Haan & José L. Moraga‐González, 2011. "Advertising for Attention in a Consumer Search Model," Economic Journal, Royal Economic Society, vol. 121(552), pages 552-579, 05.
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