Testing a Theory of Strategic Multi-Product Choice

Abstract

This paper tests a theory of strategic multi-product choice (SMPC) using empirical evidence from a large-scale choice experiment, two smaller longitudinal choice experiments, and multi-market panel data. Multi-product choice involves two stages. In the first stage, the consumer chooses a set of substitutable products, where “set” refers to both the variety of alternatives and the quantities of each. In the second stage, the set is consumed. Assuming consumers are strategic, their consumption decisions will consider both the utility of whichever product is selected for consumption and the expected utility (i.e., value) of the set that remains. SMPC therefore requires a dynamic model. We test two such dynamic models in this paper. These models are derived from a basic random utility framework with a stochastic error term for the utility of each product alternative at the moment of consumption. Despite maintaining state variables for the quantity of every alternative, these SMPC dynamic models offer both a value function and optimal consumption policy in closed form. These structures allow us to test for strategic consumption in the second stage and for optimality of the choice sets selected in the first stage. Data from the large-scale choice experiment and the smaller longitudinal choice experiments support strategic consumer decision-making, consistent with SMPC theory. SMPC theory further predicts that the amount of variety consumers select will be higher for lower consumption rates and lower for higher consumption rates. Evidence from panel data of yogurt purchases supports this prediction. While we find that consumption choices are consistent with SMPC theory, they are not consistent with alternative explanations such as variety seeking or diversification bias. Viewed in its entirety, the empirical evidence presented in this paper confirms that both the choice set selected and the way it is consumed are consistent with dynamic models of future preference uncertainty.

Note: Partial financial support from the JCPenney Center for Retail Excellence was used in this research.

Keywords: multi-product choice, diversification bias, consumer shopping behavior