Deterministic Versus Random Utility: Implied Patterns of Vertical Product Differentiation in a Multi-Product Monopoly

Tinbergen Institute Discussion Paper No. 12-023/3

40 Pages Posted: 14 Mar 2012

See all articles by Christiaan Behrens

Christiaan Behrens

VU University Amsterdam - Department of Economics

Mark Glenn Lijesen

VU University Amsterdam, Dept of Spatial Economics

Eric A. J. H. Pels

Vrije Universiteit - Department of Spatial Economic

Erik T. Verhoef

VU University Amsterdam - Department of Spatial Economics; Vrije Universiteit Amsterdam, School of Business and Economics; Tinbergen Institute

Date Written: March 12, 2012

Abstract

In this article we study patterns of vertical product differentiation in a multi-product monopoly using a random utility model. Prior research shows that applying such a model in a multi-product setting implies symmetric patterns of product differentiation in which all product variants of a single firm have the same characteristics. Assuming that preferences differ across consumers and allowing for unobserved demand heterogeneity, we numerically show the existence of asymmetric, fully differentiated, patterns of vertical product differentiation in which the monopolist maximizes profits by setting prices and qualities. In particular, we show that the patterns of vertical product differentiation depend crucially on the level of unobserved demand heterogeneity and the observed dispersion of willingness to pay for quality. Only if unobserved demand heterogeneity is small relative to the observed dispersion, asymmetric, fully differentiated, equilibriums exist. Furthermore, we find in our model that the level of unobserved heterogeneity and the dispersion of willingness to pay for quality do not affect the relative welfare efficiency of the monopolist.

Keywords: Vertical product differentiation, market segmentation, multi-product monopoly, random utility models

JEL Classification: D21, D42, L11, L12

Suggested Citation

Behrens, Christiaan and Lijesen, Mark Glenn and Pels, Eric A.J.H. and Verhoef, Erik T., Deterministic Versus Random Utility: Implied Patterns of Vertical Product Differentiation in a Multi-Product Monopoly (March 12, 2012). Tinbergen Institute Discussion Paper No. 12-023/3, Available at SSRN: https://ssrn.com/abstract=2021081 or http://dx.doi.org/10.2139/ssrn.2021081

Christiaan Behrens (Contact Author)

VU University Amsterdam - Department of Economics ( email )

De Boelelaan 1105
1081 HV Amsterdam
Netherlands

Mark Glenn Lijesen

VU University Amsterdam, Dept of Spatial Economics ( email )

De Boelelaan 1105
1081HV Amsterdam
Netherlands

Eric A.J.H. Pels

Vrije Universiteit - Department of Spatial Economic ( email )

De Boelelaan 1105
1081HV Amsterdam
Netherlands
+31-20-4446049 (Phone)
+31-20-4446004 (Fax)

Erik T. Verhoef

VU University Amsterdam - Department of Spatial Economics ( email )

De Boelelaan 1105
1081HV Amsterdam
Netherlands
+31 020 4446094 (Phone)
+31 020 4446004 (Fax)

Vrije Universiteit Amsterdam, School of Business and Economics ( email )

De Boelelaan 1105
Amsterdam, 1081HV
Netherlands

Tinbergen Institute ( email )

Gustav Mahlerplein 117
Amsterdam, 1082 MS
Netherlands

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