DP14700 Preferences, Confusion and Competition
Do firms seek to make the market transparent, or do they confuse consumers
in their product perceptions? We show that the answer to this question depends
decisively on preference heterogeneity. Contrary to the well-studied case of homogeneous
goods, confusion is not necessarily an equilibrium in markets with differentiated
goods. In particular, if the taste distribution is polarized, so that indifferent
consumers are relatively rare, firms strive to fully educate consumers. By contrast,
if the taste distribution features a concentration of indecisive consumers, confusion
becomes part of the equilibrium strategies. The adverse welfare consequences of
confusion can be more severe than with homogeneous goods, as consumers may not
only pay higher prices, but also choose a dominated option, or inefficiently refrain
from buying. Qualitatively similar insights obtain for political contests, in which
candidates compete for voters with heterogeneous preferences.
