DP14700 Preferences, Confusion and Competition

Author(s): Andreas Hefti, Shuo Liu, Armin Schmutzler
Publication Date: May 2020
Keyword(s): consumer confusion, differentiated products, obfuscation, polarized/indecisive preferences, Political Competition, price competition
JEL(s): D43, L13, M30
Programme Areas: Industrial Organization
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=14700

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.