Quality diversity and prices in markets for experience goods

Orosel, G.O. & Zauner, K. (2011). Quality diversity and prices in markets for experience goods. Journal of Economics and Management Strategy, 20(3), pp. 709-783. doi: 10.1111/j.1530-9134.2011.00308.x

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We analyze vertical product differentiation in a model where a good's quality is unobservable to customers before purchase, a continuum of quality levels is technologically feasible, and minimum quality is supplied by a competitive fringe of firms. After purchase the true quality of the good is revealed. To provide firms with incentives to actually deliver promised quality, prices must exceed unit variable costs. We show that for a large class of customer preferences there is "quality polarization," that is, only minimum and maximum feasible quality are available in the market. For the case without quality polarization we derive sufficient conditions for the incentive constraints to completely determine equilibrium prices, regardless of demand, for all intermediate quality levels.

Publication Type: Article
Subjects: H Social Sciences > HB Economic Theory
H Social Sciences > HC Economic History and Conditions
Departments: School of Arts & Social Sciences > Economics
URI: http://openaccess.city.ac.uk/id/eprint/17956

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