Role of demand-side strategy in quality competition

Abstract

The research questions studied in this paper concern the role of demand side strategy for a firm engaged in duopolistic competition in quality and price. A demand side strategy research looks towards markets and consumers unlike the traditional resource side strategy research that looks upstream — into the firm’s resources and its supply side. We examine whether following a demand side strategy would benefit the firm, the consumers or both. In a market where two firms are competing with each other, we first find the equilibrium quality and price levels for the traditional case where the two firms optimize their own profit function. We use this case as a benchmark case for comparison. Next, we let one firm (the lower quality firm) adopt a demand side strategy operationalized by an objective function where the profit is augmented by consumer surplus. The equilibrium results show that a demand side strategy would increase the product quality level in the market, and improve the adopter firm’s competitiveness at the same time increasing the market consumer surplus. We also study the case where the higher quality firm adopts demand side strategy and compare the results with the two cases mentioned above. Overall, we find that adopting a demand side strategy would benefit the adopter firm’s profitability and the consumers. We, therefore, find evidence of what the strategy literature has been predicting about the role of demand side strategy.