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Do Switching Costs Make Markets Less Competitive?

48 Pages Posted: 13 Jun 2006 Last revised: 28 Aug 2016

Jean-Pierre Dubé

University of Chicago - Booth School of Business; National Bureau of Economic Research (NBER)

Günter J. Hitsch

University of Chicago - Booth School of Business

Peter E. Rossi

University of California, Los Angeles (UCLA) - Anderson School of Management

Date Written: September 1, 2008

Abstract

The conventional wisdom in economic theory holds that switching costs make markets less competitive. This paper challenges this claim. We find that steady-state equilibrium prices may fall as switching costs are introduced into a simple model of dynamic price competition that allows for differentiated products and imperfect lock-in. To assess whether this finding is of empirical relevance, we consider a more general model with heterogeneous consumers. We calibrate this model with data from a frequently purchased packaged goods market where consumers exhibit inertia in their brand choices, a behavior consistent with switching costs. We estimate the level of switching costs from the brand choice behavior in this data. At switching costs of the order of magnitude found in our data, prices are lower than without switching costs.

Keywords: switching costs, dynamic model, brand loyalty, state dependence

JEL Classification: D1, D4, L1, M3

Suggested Citation

Dubé, Jean-Pierre and Hitsch, Günter J. and Rossi , Peter E., Do Switching Costs Make Markets Less Competitive? (September 1, 2008). Kilts Center for Marketing at Chicago Booth – Nielsen Dataset Paper Series 20-002. Available at SSRN: https://ssrn.com/abstract=907227 or http://dx.doi.org/10.2139/ssrn.907227

Jean-Pierre H. Dube

University of Chicago - Booth School of Business ( email )

5807 South Woodlawn Avenue
Chicago, IL 60637
United States

HOME PAGE: http://gsb.uchicago.edu/fac/jean-pierre.dube

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Guenter J. Hitsch

University of Chicago - Booth School of Business ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States

Peter E. Rossi (Contact Author)

University of California, Los Angeles (UCLA) - Anderson School of Management ( email )

110 Westwood Plaza
Los Angeles, CA 90095-1481
United States
773-294-8616 (Phone)

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