Consumer Entry: Impact on Expert’s Pricing and Overcharging Behavior

Abstract

In a credence goods market, a consumer (he) is unaware of his true need, which can be either intense or minor. An expert (she) designs a menu that either charges a uniform price to both services, termed pooling pricing, or varies charges according to service types, termed differential pricing. Learning the menu offered by the expert and anticipating her behavior in serving consumers, a consumer weighs the expected utility of service provision against the cost incurred in transportation to decide whether to visit the expert, termed entry decision. Upon arrival of a consumer, the expert discerns his true need and recommends a service along with the associated charge. Under the liability assumption, the expert provides a service to satisfy the consumer’s need. However, the consumer is unable to discern the nature of the service actually provided. This can induce the expert who adopts differential pricing to recommend intense service to a consumer with minor need, termed overcharging. We investigate the effects of consumers’ entry decision on the expert’s optimal pricing strategy and the occurrence of overcharging, and study the robustness of the main results to practical features.