Responsive Pricing and Product Quality of Fashion Goods

Abstract

In the fashion industry, manufacturers exert great efforts in product innovations to improve product quality. Investing in such endeavors is expensive, and the market may have much demand uncertainty that can affect product sales. In practice, responsive pricing is commonly used to mitigate the risk or effect of demand uncertainty. In a decentralized channel, product quality is often designed by the brand-owning manufacturer, while responsive pricing is usually implemented by the retailer. We build an analytical model to study how the retailer’s responsive pricing in a two-period selling season affects the manufacturer’s quality-investment decision and the profitability of firms. We find that if the consumers’ valuations for quality are sufficiently homogeneous, the retailer’s responsive pricing will dampen the manufacturer’s quality investment. If the consumers’ valuations for quality have an intermediate level of heterogeneity, the retailer’s responsive pricing will induce the manufacturer to increase its quality investment. Furthermore, we find that because of the manufacturer’s strategic wholesale pricing decision, the retailer’s responsive pricing can lead to a win-win or lose-lose outcome. As the second-period market size increases, the retailer’s responsive pricing is more likely to increase the manufacturer’s product quality and profit but can be more likely to reduce the retailer’s profit.

Keywords: responsive pricing, product quality, profitability, decentralized channel

JEL Classification: M2, M3