Price Transparency and Consumer Naivety in a Competitive Market

Abstract

Despite intense price competition firms obfuscate product information when it is relatively costless to reveal, contrary to neoclassical predictions. This paper considers whether firms can profitably conceal (part of) their prices for a homogeneous product when consumers differ in their ability to form expectations of market prices. The model shows that the ability to conceal prices but still attract naïve consumers dampens competition and allows prices to be set above marginal cost. This suggests that the European Commission was correct to pass regulations that require airlines to set prices inclusive of taxes, fees and charges, because alternative policies of educating a proportion of naïve consumers to become sophisticated or assisting consumers to search the market more effectively could increase prices in some situations.

Keywords: bounded rationality, obfuscation, price transparency

JEL Classification: L13, D18, D83