Signaling by Price in a Congested Environment

Abstract:     
We consider the informational role of a queue when a firm can adjust its price to signal its quality to uninformed consumers. When the proportion of informed consumers is relatively high, increasing the price of a high-quality good is a superior signaling strategy. In this case, high- and low-quality firms choose different prices, so the queue has no role in communicating information about quality. Such separation is costly for a high-quality firm if, to prevent imitation by the low-quality firm, it has to raise its price beyond a monopoly price. When the proportion of informed consumers is low, there are also equilibria in which high- and low-quality firms pool on a low price. We exhibit equilibria in which, in the limit as waiting costs vanish, the queue almost perfectly reveals the quality. Here, short queues are associated with the low-quality firm and long queues with the high-quality one. We show that the high-quality firm earns a higher profit in the pooling equilibrium with congestion as compared to the case of costly separation. This explains why some producers prefer to signal quality via the queue length rather than by charging a high price. We demonstrate numerically that our findings are robust to positive waiting costs.

Number of Pages in PDF File: 35

JEL Classification: D42, D83, L15

working papers series