price competition when consumer behavior is chracterized by conformity or vanity.pdf

Journal of Public Economics 80 (2001) 385–408 www.elsevier.nl / locate /econbase Price competition when consumer behavior is characterized by conformity or vanity a , b c *Isabel Grilo , Oz Shy , Jacques-Franc?ois Thisse a ′ ′GREMARS, Universite de Lille III and CORE, Universite Catholique de Louvain, 59653 Villeneuve d’Ascq Cedex, France b Department of Economics, University of Haifa, Israel c ′ ′CORE, Universite Catholique de Louvain, CERAS, Ecole Nationale des Ponts et Chaussees, and CEPR, Louvain, France Received 1 December 1998; received in revised form 1 June 2000; accepted 1 June 2000 Abstract It has long been recognized that the pleasure of consuming a good may be affected by the consumption choice of other consumers. In some cases, social pressures may lead to conformity; in some others, individuals may feel the need of exclusiveness under the form of vanity. Such externalities have proven to be important in several markets. However, the market implication of these externalities are still unclear. To investigate them, we propose to combine the consumption externality model and the spatial duopoly model. When conformity is present but not too strong, both firms remain in business but price competition is fiercer and results in lower prices. The market share of the large firm increases with the population size; as the population keeps rising, the large firm may serve the entire market and set a price that has the nature of a limit price. When conformity is strong enough, different equilibria may exist. In most of these equilibria, a single firm captures the whole market. At the other extreme, when vanity is at work, price competition is relaxed. ? 2001 Elsevier Science B.V. All rights reserved. Keywords: Price competition; Consumer behavior; Conformity; Vanity 1. Introduction Ever since Veblen (1899), it has been recognized that the pleasure of consuming a particular good may be affected by the consumption choice of other consumers. *Corresponding author. 004