Reference-Based Transitions in Short-Run Price Elasticity

49 Pages Posted: 4 Jul 2008

See all articles by Koen H. Pauwels

Koen H. Pauwels

Ozyegin University

Philip Hans Franses

Erasmus University Rotterdam (EUR) - Department of Econometrics

Shuba Srinivasan

Boston University - Questrom School of Business

Date Written: 16 2003, 12

Abstract

Marketing literature has long recognized that price response need not be monotonic and symmetric, but has yet to provide generalizable market-level insights on reference price type, asymmetric thresholds and sign and magnitude of elasticity transitions. In this paper, we introduce smooth transition models to study reference-based price response across 25 fast moving consumer good categories. Our application to 100 brands shows that 77% demonstrate reference-based price response, of which 36% reflects historical reference prices, 31% reflects competitive reference prices, and 33% reflects both types of reference prices. This reference-based price response shows asymmetry for gains versus losses on three levels: the threshold size, the sign and the magnitude of the elasticity difference. For historical reference prices, the threshold size is larger for gains (20%) than for losses (12%) and the assimilation/contrast effects for gains (-0.41) are smaller than the saturation effects for losses (0.81). For competitive reference prices, the threshold size is smaller for gains (3%) than for losses (16%), and the saturation effects are larger for gains (0.33) than for losses (0.15). These results are moderated by both brand and category characteristics that affect reference price accessibility and diagnosticity. Historical reference prices more often play a role for national brands, for planned purchases and in inexpensive categories with low price volatility and high purchase frequency. When price discounting, high-share brands face larger latitudes of acceptance. When raising prices, saturation effects set in later for brands with high price volatility and for categories with high price spread and for planned purchases. As for competitive reference prices, saturation effects set in later for expensive brands with high price volatility and in categories with lower price volatility, higher price spread and higher concentration. Sales, revenue and margin implications are illustrated for price changes typically observed in consumer markets.

Keywords: kinked demand curve, smooth-transition regression models, competitive versus historical reference prices, asymmetric price thresholds, saturation versus assimilation/contrast effects, empirical generalizations

JEL Classification: M, M31, C44

Suggested Citation

Pauwels, Koen H. and Franses, Philip Hans and Srinivasan, Shuba, Reference-Based Transitions in Short-Run Price Elasticity (16 2003, 12). ERIM Report Series Reference No. ERS-2003-095-MKT. Available at SSRN: https://ssrn.com/abstract=1154825

Koen H. Pauwels

Ozyegin University ( email )

Kusbakisi Cd. No: 2
Altunizade, Uskudar
Istanbul, 34662
Turkey

HOME PAGE: http://www.marketdashboards.com

Philip Hans Franses

Erasmus University Rotterdam (EUR) - Department of Econometrics ( email )

P.O. Box 1738
3000 DR Rotterdam
Netherlands
+31 10 408 1278 (Phone)
+31 10 408 9162 (Fax)

Shuba Srinivasan

Boston University - Questrom School of Business ( email )

595 Commonwealth Avenue
Boston, MA MA 02215
United States
6173535978 (Phone)
6173534098 (Fax)

HOME PAGE: http://smgnet.bu.edu/mgmt_new/profiles/SrinivasanShuba.html

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