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Probabilistic Patents

Author

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  • Michael R. Baye

    (Kelley School of Business, Indiana University)

  • John Morgan

    (Haas School of Business & Department of Economics, UC Berkeley)

Abstract

We model a homogeneous product environment where identical e-retailers endogenously engage in both brand advertising (to create loyal customers) and price advertising (to attract 'shoppers'). Our analysis allows for 'cross-channel' effects; indeed, we show that price advertising is a substitute for brand advertising. In contrast to models where loyalty is exogenous, these crosschannel effects lead to a continuum of symmetric equilibria; however, the set of equilibria converges to a unique equilibrium as the number of potential e-retailers grows arbitrarily large. Price dispersion is a key feature of all of these equilibria, including the limit equilibrium. While each firm finds it optimal to advertise its brand in an attempt to 'grow' its base of loyal customers, in equilibrium, branding (1) reduces firm profits, (2) increases prices paid by loyals and shoppers, and (3) adversely affects gatekeepers operating price comparison sites. Branding also tightens the range of prices and reduces the value of the price information provided by a comparison site. Using data from a price comparison site, we test several predictions of the model.

Suggested Citation

  • Michael R. Baye & John Morgan, 2005. "Probabilistic Patents," Microeconomics 0504004, University Library of Munich, Germany.
  • Handle: RePEc:wpa:wuwpmi:0504004
    Note: Type of Document - pdf; pages: 53
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Price dispersion;

    JEL classification:

    • D4 - Microeconomics - - Market Structure, Pricing, and Design
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • M3 - Business Administration and Business Economics; Marketing; Accounting; Personnel Economics - - Marketing and Advertising
    • L13 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Oligopoly and Other Imperfect Markets

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