Abstract
We propose an incomplete-information model of price dispersion in which firms set different prices conditional on their privately-observed, heterogeneous production costs. We establish two types of equilibria, random equilibrium and searching equilibrium, based on whether consumers who are uninformed about prices purchase from a randomly-selected first firm or actively engage in sequential search in equilibrium. We find that random equilibrium is more likely to emerge when a large number of firms intensely compete in the market. Using a novel clickstream data from a large U.K. online retailer, we provide supporting empirical evidence.
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