Tourist-trap model cost which is c. Now there is an additional point which we state here only heuristically (we do not do the maths for it)and i.e. even if this firm which starts charging a lower price, lower by an amount greater than c, the consumers would search for this low price store only if it is not one in many. In that case consumer have a very low chance (probability)of hitting the low price store and will not search. With a large number of firms then no firm will have an incentive to lower the price when other firms are charging a monopoly price. The maths of this is below but you are not required to know this part i.e. the mathematical derivation of this result
Tourist-trap Model
Tourist-trap model For a customer who initially arrives at another store, to even consider looking for th cheaper store, the cheaper store must charge p"-c(n-1)-1c. Why? Let d be the discount the deviating store offers, i. e. its price is p-d. Since there are n stores, and the tourist is already in one of the expensive ones, the chance that the tourist will find the other store is 1/(n-1). I she does find the cheaper store she saves d-c(i.e, makes an expected gain of (d-c)/(n-1). If she does not find the cheaper store, she pays c more than she would have if she bought at the first store. The probability of this is(n-2)/(n 1). The expected loss then is c(n-2 )/(n-1). Thus the consumer will look for the cheaper store on/vi (d-c)(n-1)>c(n-2)/(n-1) d-c>c(n-2), or d>c(n-1)
Tourist-trap Model
Tourist-trap model e. g. if the cheaper store chooses a discount d=c(n-1)+ 1c. From this you can see that if n is small, the deviating store does not have to lower price as much to attract customers. And the less the store needs to lower price the less profits it will for ego by doing so. This means the smaller n the less likely the monopoly price can be an equilibr rIum This is contrary to what we see under full information and we need to appreciate this result both from the point of view of learning and exams. recall that our argument did not hinge on the size of c. Reducing search costs does not help! The existence of infinitesimal search costs make the competitive equilibrium break down and only possible single price equilibrium features the monopoly price
Tourist-trap Model
Tourist-trap model In the light of what we have learnt we should be able to comment on the followin henomenon (1) Advertising and price-. Federal Trade Commission(FTC)opposes groups wanting to forbid price advertising (2) In an empirical study it was found that the price of eyeglasses is 28% higher in states that forbade advertising than in those that permitted it (Benham 1972) ()On a cynical note- Why some doctors and lawyers organization prevent advertising?
Tourist-trap Model
Price Dispersion The commonly agreed upon"law of one price stating that identical products sold at the same location at a given time period must be sold for Identical prices is actually rarely observed in any market. Most retail markets are instead characterized by a rather large degree of price dispersion The cost of obtaining price information might be one reason for price dispersion in homogeneous product market
Price Dispersion • The commonly agreed upon "law of one price" stating that identical products sold at the same location at a given time period must be sold for identical prices is actually rarely observed in any market. Most retail markets are instead characterized by a rather large degree of price dispersion. • The cost of obtaining price information might be one reason for price dispersion in homogeneous product market