Prices and Qualities: A Search Model

Abstract

Recently there has been substantial interest in the study of price and/or quality dispersion in markets with costly information.' Many of these studies focus on the problem of price dispersion, assuming that the quality is fixed (i.e., homogeneous good). The most distinct feature of these models is the way information is gathered: information can either be obtained through the purchase of a newspaper at some cost (information purchase models) or through costly sequential or nonsequential search (search models). Each of these models identifies the conditions under which a rational expectation price dispersion equilibrium will exist. In particular, using an information purchase model with two classes of consumers with differential information costs, Salop-Stiglitz [15] show that equilibrium may be characterized by a high and a low price for a homogeneous good. On the other hand, WildeSchwartz [18] show that there can be price dispersion if consumers have different propensities to search. They assume that one class of consumers will shop only once, and the other class will shop an exogenously determined number of times before purchasing. In their model, only certain price distributions are sustainable in equilibrium. The Salop-Stiglitz and Wilde-Schwartz results are due to the ex ante heterogeneity of consumer types. In an interesting paper, Burdett-Judd [3] have established that price dispersion can exist even when consumers are identical due to ex post heterogeneity in information. While the price dispersion models are illuminating in explaining the differential prices in the markets, they are limited by their abstraction from the quality uncertainty-goods of heterogeneous qualities can be and are offered. In a recent paper [6], using an information purchase model with two classes of consumers, we have analyzed the price and quality equilibria by examining three different environments involving costly information: (i) quality information costly; price information costless; (ii) price information costly;