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Consumer Search with Observational Learning

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Abstract

This paper studies observational learning in a consumer search environment. In our model, consumers observe the purchasing decision of a predecessor before deciding which rm to visit. We show that if consumers emulate their predecessor and initiate their search at the rm she purchased from, a social multiplier of demand induces a lower equilibrium price. Further, as the search cost increases, rms compete ercely to attract consumers and prices converge to the marginal cost. We show that the result can be extended to any number of rms, and the e ect of emulation on prices is stronger as the number of rms increases. We also show that, as consumers observe more previous purchasing decisions, the downward pressure on prices grows to the degree that the pure strategy equilibrium may cease to exist. We then provide a rationale for emulation by introducing positive correlation in preferences across consumers. This correlation gives rise to free-riding which deters search, and as a result puts further downward pressure on prices for high search cost.

Suggested Citation

  • Sandro Shelegia & Daniel Garcia, 2015. "Consumer Search with Observational Learning," Vienna Economics Papers 1502, University of Vienna, Department of Economics.
  • Handle: RePEc:vie:viennp:1502
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    References listed on IDEAS

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    1. Becker, Gary S, 1991. "A Note on Restaurant Pricing and Other Examples of Social Influences on Price," Journal of Political Economy, University of Chicago Press, vol. 99(5), pages 1109-1116, October.
    2. Asher Wolinsky, 1986. "True Monopolistic Competition as a Result of Imperfect Information," The Quarterly Journal of Economics, Oxford University Press, vol. 101(3), pages 493-511.
    3. Subir Bose & Gerhard Orosel & Marco Ottaviani & Lise Vesterlund, 2006. "Dynamic monopoly pricing and herding," RAND Journal of Economics, RAND Corporation, vol. 37(4), pages 910-928, December.
    4. Arthur Campbell, 2013. "Word-of-Mouth Communication and Percolation in Social Networks," American Economic Review, American Economic Association, vol. 103(6), pages 2466-2498, October.
    5. Monzón, Ignacio & Rapp, Michael, 2014. "Observational learning with position uncertainty," Journal of Economic Theory, Elsevier, vol. 154(C), pages 375-402.
    6. Kenneth Hendricks & Alan Sorensen & Thomas Wiseman, 2012. "Observational Learning and Demand for Search Goods," American Economic Journal: Microeconomics, American Economic Association, vol. 4(1), pages 1-31, February.
    7. Roman Chuhay, 2010. "Marketing via Friends: Strategic Diffusion of Information in Social Networks with Homophily," Working Papers 2010.118, Fondazione Eni Enrico Mattei.
    8. Kováč, Eugen & Schmidt, Robert C., 2014. "Market share dynamics in a duopoly model with word-of-mouth communication," Games and Economic Behavior, Elsevier, vol. 83(C), pages 178-206.
    9. Abhijit V. Banerjee, 1992. "A Simple Model of Herd Behavior," The Quarterly Journal of Economics, Oxford University Press, vol. 107(3), pages 797-817.
    10. Maarten Janssen & Alexei Parakhonyak, 2014. "Consumer search markets with costly revisits," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 55(2), pages 481-514, February.
    11. 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, May.
    12. Juanjuan Zhang, 2010. "The Sound of Silence: Observational Learning in the U.S. Kidney Market," Marketing Science, INFORMS, vol. 29(2), pages 315-335, 03-04.
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    Citations

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    Cited by:

    1. Armstrong, Mark, 2016. "Ordered Consumer Search," MPRA Paper 72194, University Library of Munich, Germany.
    2. Haan, Marten & Moraga Gonz, 2015. "Price and match-value advertising with directed consumer search," Research Report 15012-EEF, University of Groningen, Research Institute SOM (Systems, Organisations and Management).
    3. Daniel Garcia, 2017. "Dynamic Pricing with Search Frictions," Vienna Economics Papers 1703, University of Vienna, Department of Economics.
    4. Haan, Marco A. & Moraga-Gonz�lez, Jos�-Luis & Petrikaite, Vaiva, 2017. "A Model of Directed Consumer Search," CEPR Discussion Papers 11955, C.E.P.R. Discussion Papers.

    More about this item

    JEL classification:

    • D11 - Microeconomics - - Household Behavior - - - Consumer Economics: Theory
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets

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