The Informational Role of Prices
Leonard J. Mirman
University of Virginia - Department of Economics
HEC Montreal, Institute of Applied Economics; Centre Interuniversitaire sur le Risque, les Politiques Economiques et l'Emploi (CIRPÉE)
April 7, 2014
We study the informational role of prices. To that end, we consider the framework of a dominant firm with a competitive fringe. When the competitive fringe is large enough, there exists a unique fully revealing equilibrium, in which the price conveys full information about the quality of the good to uninformed buyers. Deceiving the uninformed buyers by charging a high price and mimicking a high quality is not profitable when the competitive fringe is large enough. Since a higher price triggers more sales on the part of the competitive fringe, residual demand and thus profits are reduced. We also study the effect of asymmetric information and learning on the equilibrium outcomes. More uninformed buyers increases the price, reduces the quantity sold by the dominant firm, but increases the quantity sold by the competitive fringe.
Number of Pages in PDF File: 41
Keywords: Asymmetric information, Dominant Firm with Fringe Competition, Informational externality, Learning quality, Signaling
JEL Classification: D21, D42, D82, D83, D84, L12, L15
Date posted: November 19, 2009 ; Last revised: April 8, 2014
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