Consumer Reviews and Dynamic Price Signaling

Abstract

Pricing decisions are crucial for managing a firm's reputation and maximizing profits. Consumer reviews reflect not only product quality but also a product’s price, with more favorable reviews for low-priced products. We study whether such review behavior can induce firms to manipulate the review process by underpricing their product (below current consumers' willingness to pay). We introduce an equilibrium model with a privately informed firm repeatedly selling its product to uninformed but rational consumers who learn about product quality from past reviews and current prices. We show that underpricing can arise only at low levels of reputation, and then only under a specific condition on consumers' utility shocks distribution, which we fully characterize. Surprisingly, rating manipulation unambiguously benefits consumers, since it operates via underpricing.

Keywords: Consumer Reviews, Reputation, Dynamic Pricing, Price Signaling

JEL Classification: D83, D21