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Bargains Followed by Bargains: When Switching Costs Make Markets More Competitive

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  • Jason Pearcy

Abstract

In markets where consumers have switching costs and firms cannot price‐discriminate, firms have two conflicting strategies. A firm can either offer a low price to attract new consumers and build future market share or a firm can offer a high price to exploit the partial lock‐in of their existing consumers. This paper develops a theory of competition when overlapping generations of consumers have switching costs and firms produce differentiated products. Competition takes place over an infinite horizon with any number of firms. This paper shows that the relationship between the level of switching costs, firms' discount rate, and the number of firms determines whether firms offer low or high prices. Similar to previous duopoly studies, switching costs are likely to facilitate lower (higher) equilibrium prices when switching costs are small (large) or when a firm's discount rate is large (small). Unlike previous studies, this paper demonstrates that the number of firms also determines whether switching costs are pro‐ or anticompetitive, and with a sufficiently large (small) number of firms switching costs are pro‐ (anti‐) competitive.

Suggested Citation

  • Jason Pearcy, 2016. "Bargains Followed by Bargains: When Switching Costs Make Markets More Competitive," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 25(4), pages 826-851, December.
    • Handle: RePEc:bla:jemstr:v:25:y:2016:i:4:p:826-851
    DOI: 10.1111/jems.12158
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    References listed on IDEAS

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    1. Paul Klemperer, 1995. "Competition when Consumers have Switching Costs: An Overview with Applications to Industrial Organization, Macroeconomics, and International Trade," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 62(4), pages 515-539.
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    Cited by:

    1. Luisa Dressler & Stefan Weiergraeber, 2023. "Alert the Inert? Switching Costs and Limited Awareness in Retail Electricity Markets," American Economic Journal: Microeconomics, American Economic Association, vol. 15(1), pages 74-116, February.
    2. Luis Cabral, 2016. "Dynamic Pricing in Customer Markets with Switching Costs," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 20, pages 43-62, April.
    3. Andrew Rhodes, 2014. "Re-examining the effects of switching costs," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 57(1), pages 161-194, September.
    4. Timothy J. Richards & Bradley J. Rickard, 2021. "Dynamic model of beer pricing and buyouts," Agribusiness, John Wiley & Sons, Ltd., vol. 37(4), pages 685-712, October.
    5. Richards, Timothy J. & Liaukonyte, Jura, 2018. "Switching Cost and Store Choice," 2018 Annual Meeting, August 5-7, Washington, D.C. 274201, Agricultural and Applied Economics Association.
    6. Luis Cabral, 2012. "Switching Costs and Equilibrium Prices," Working Papers 12-04, New York University, Leonard N. Stern School of Business, Department of Economics.
    7. Jason Allen & Shaoteng Li, 2020. "Dynamic Competition in Negotiated Price Markets," Staff Working Papers 20-22, Bank of Canada.
    8. Guy Arie & Paul E. Grieco, 2014. "Who pays for switching costs?," Quantitative Marketing and Economics (QME), Springer, vol. 12(4), pages 379-419, December.
    9. Siciliani, Paolo & Beckert, Walter, 2017. "Spatial models of heterogeneous switching costs," Bank of England working papers 689, Bank of England.

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