Price Competition in the Presence of Social Comparison and Demand Uncertainty

Abstract

We consider the price competition between a duopoly selling differentiated substitutable products under additive demand uncertainty, in which firms' decisions are influenced by social comparison. Social comparison theory, as well as conventional wisdom, suggests that social comparison behaviors, such as behind aversion (upward comparison) and ahead seeking (downward comparison), all work in the similar fashion to intensify competition. We demonstrate how opposite-directional social comparisons interact with demand variability to change competitive behaviors. In particular, we show that the stronger the behind aversion behavior, the more intense the price competition. Surprisingly, there is a threshold on the market variability above which price competition is more alleviated and below which price competition is more intensified, when the firms exhibit stronger ahead-seeking behavior. In addition, we also find that firms' biased perceptions of market variability may reduce price competition as the social comparison effect is influenced in different ways by the firm's own market variability and by the apparent market variability of the competitor.These insights are robust under multiplicative demand uncertainty, but they are reversed for complementary products. We identify the driving forces behind these results. The findings also shed light on other interactions of strategic complements or substitutes in the presence of social comparisons, e.g., effort competition of sales agents in a competitive or collaborative environment.