DP7785 Pricing and Information Disclosure in Markets with Loss-Averse Consumers

Author(s): Heiko Karle, Martin Peitz
Publication Date: April 2010
Keyword(s): Advertising, Behavioral Industrial Organization, Imperfect Competition, Information Disclosure, Loss Aversion, Price Variation, Product Differentiation, Reference-Dependent Utility
JEL(s): D83, L13, L41, M37
Programme Areas: Industrial Organization
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=7785

We develop a theory of imperfect competition with loss-averse consumers. All consumers are fully informed about match value and price at the time they make their purchasing decision. However, a share of consumers are initially uncertain about their tastes and form a reference point consisting of an expected match value and an expected price distribution, while other consumers are perfectly informed all the time. We derive pricing implications in duopoly with asymmetric firms. In particular, we show that a market may exhibit more price variation the larger the share of uninformed, loss-averse consumers. We also derive implications for firm strategy and public policy concerning firms? incentives to inform consumers about their match value prior to forming their reference point.