J. Miguel Villas-Boas

A bargaining theory of distribution channels

A critical factor in channel relationships between manufacturers and retailers is the relative bargaining power of both parties. In this article, the authors develop a framework to examine bargaining between channel members and demonstrate that the bargaining process actually affects the degree of coordination and that two-part tariffs will not be part of the market contract even in a simple one manufacturer-one retailer channel. To establish the institutional and theoretical bases for these results, the authors relax the conventional assumption that the product being exchanged is completely specifiable in a contract. They show that the institution of bargaining has force, and it affects channel coordination when the complexity of nonspecifiability of the product exchange is present. The authors find that greater retailer power promotes channel coordination. Thus, there are conditions in which the presence of a powerful retailer might actually be beneficial to all channel members. The authors recover the standard double-marginalization take-it-or-leave-it offer outcome as a particular case of the bargaining process. They also examine the implications of relative bargaining powers for whether the product is delivered “early” (i.e., before demand is realized) or “late” (i.e., delivered to the retailer only if there is demand). The authors present the implications for returns policies as well as of renegotiation costs and retail competition.

When More Alternatives Lead to Less Choice

This paper shows that when the alternatives offered to consumers span the preference space (as it would be chosen by a firm), search or evaluation costs may lead consumers not to search and not to choose if too many or too few alternatives are offered. If too many alternatives are offered, then the consumer may have to engage in many searches or evaluations to find a satisfactory fit. This may be too costly and result in the consumer avoiding making a choice altogether. If too few alternatives are offered, then the consumer may not search or choose, fearing that an acceptable choice is unlikely. These two forces result in the existence of a finite optimal number of alternatives that maximizes the probability of choice.

Retailer, Manufacturers, and Individual Consumers: Modeling the Supply Side in the Ketchup Marketplace

The authors construct a model of the local ketchup market in a Texas city that accounts for household, manufacturer, and retailer decisions. That is, the model develops both demand and supply sides of the market. The authors model the demand side through a latent utility framework that allows for a no-purchase option. Accounting for both sides of the market enables the authors to check for any endogeneity problems on the demand side. They model the supply side through the profit-maximizing decisions of the manufacturers and a multiproduct retailer. Accounting for both the retailer and the manufacturer decisions enables the authors to evaluate the degree of manufacturer competition, retailer–manufacturer interactions, and retailer product-category pricing. Given the model assumptions and the market being studied, the authors find that not accounting for demand endogeneity can create bias in the estimation, the retailer seems to price below the static profit-maximizing prices for two of the three brands, and the inferred marginal wholesale prices are below the equilibrium uniform wholesale prices for two brands. The authors discuss the results with regard to channel bargaining, quantity discounts, and retailer category pricing.

Price Cycles in Markets with Customer Recognition

Given that having bought earlier from a firm reveals something about the customers, the firms can try to use this piece of information by better fitting their market practices with respect to their previous customers. I consider an infinitely lived monopolist selling to a market where demand is composed of overlapping generations of forward-looking consumers. The monopolist can price differently to its previous customers than to its new customers. The new customers can either have chosen not to buy the product in the previous period or be new in the market. The main result is that, without full market coverage, the equilibrium involves cycles in the price being offered to the new customers. The monopolist is worse off than if it could not recognize its previous customers. The impact of durable goods, long-term contracts, and age recognition is also considered.

Oligopoly with Asymmetric Information: Differentiation in Credit Markets

We study an oligopoly model with asymmetric information and product differentiation. The analysis focuses on credit markets. We assume information to be asymmetric with respect to customer characteristics that directly affect bank profits. We analyze the impact of horizontal differentiation, which serves as an index for the degree of competition among banks, on loan-granting practices. We show that with more differentiation (less competition), banks may screen credit applicants less intensively in equilibrium because they compete less aggressively for the most profitable customers. As a result, welfare may actually increase as competition becomes less intense. Total profits may either increase or decrease with the introduction of asymmetric information.

Dynamic Competition with Experience Goods

This paper considers dynamic competition in the case in which consumers are only able to learn about their preferences for a certain product after experiencing it. After trying a product a consumer has more information about that product than about untried products. When competing in such a market firms with more sales in the past have an informational advantage because more consumers know their products. If products provide a better-than-expected fit with greater likelihood, taking advantage of that informational advantage may lead to an informational disadvantage in the future. This paper considers this competition with an infinite horizon model in a duopoly market with overlapping generations of consumers. Two effects are identified: On one hand marginal forward-looking consumers realize that by purchasing a product in the current period will be charged a higher expected price in the future. This effect results in reduced price sensitivity and higher equilibrium prices. On the other hand, forward-looking firms realize that they gain in the future from having a greater market share in the current period and compete more aggressively in prices. For similar discount factors for consumers and firms, the former effect is more important, and prices are higher the greater the informational advantages. The paper also characterizes oscillating market share dynamics, and comparative statics of the equilibrium with respect to consumer and firm patience, and the importance of the experience in the ex post valuation of the product.

Product Variety and Endogenous Pricing with Evaluation Costs

One important decision firms must make is to select the product line (characteristics and number of products) to offer consumers. This paper explores the effect of the interaction between consumer evaluation costs and pricing on the optimal product line length to offer consumers. Before deciding to buy a product among all products offered, a consumer learns the product line length. Given the product line length, a consumer decides whether to evaluate the products available and their prices. This decision to evaluate depends on the expected consumer surplus after the evaluation being greater than the evaluation costs. When the firm offers few products, the firm may not attract many consumers because of lack of product fit and may be forced to offer low prices. When the firm offers many products, all consumers will find a great product fit; that is, the variance of consumer valuations per product chosen is lower. This allows the firm to charge high prices to extract ex post consumer surplus, resulting in lower ex ante expected consumer surplus, which may lead consumers not to evaluate the products in the first place. That is, by offering fewer products a firm can commit not to extract all possible consumer surplus. These two forces may then lead to the existence of an interior optimal number of products to offer. The optimal number of products offered is decreasing in the evaluation costs.

Endogeneity and Individual Consumer Choice

In many markets, there is likely to be correlation both across periods in terms of the choices of one consumer and across consumers in terms of their choices in each period. The former is caused by consumer heterogeneity, and the latter may be the result of demand common shocks across consumers. Furthermore, if firms partially observe these common shocks, their market decisions may end up being endogenous and correlated with the common shocks. Because researchers cannot typically fully observe consumer heterogeneity and the common shocks, the estimation method must account for the endogeneity of firms’ decisions. In this article, the authors present a test for endogeneity under unobserved consumer heterogeneity and common shocks, which is based on a quasi-likelihood estimation method, to estimate the model parameters consistently when endogenous firm behavior, unobserved heterogeneity, and common shocks are present. The test examines the differences in general method of moments coefficient estimates of a model with and without instrumenting for the explanatory variables. The authors show theoretically that in their estimation method, unobserved heterogeneity does not affect the consistency of the parameter estimates, but if it is not accounted for, endogeneity may bias the results. They present estimation results from simulated and scanner panel data.

Learning, Forgetting, and Sales

Sellers of almost any product or service rarely keep their prices constant through time and frequently offer price discounts or sales. This paper investigates an explanation of sales as a way for uninformed consumers to be willing to experience the product, and learn about its fit, and where informed consumers may forget about (or change) their preferences. We investigate the role of the rate of consumer forgetting on the timing between sales, and of the rate of consumer learning and menu costs on the length of a sale. The rate of consumer forgetting can be linked to the length of purchase cycle and the level of consumer involvement. We show that the discount frequency and the discount depth are increasing in the rate of consumer forgetting, and that the discount frequency is increasing in the learning rate. The duration of a sale is increasing in the rate of consumer forgetting and the rate of consumer learning.

Renegotiation and Collusion in Organizations

It has been argued that collusion among the members of an organization may lead to inefficiencies and hence should be prevented in equilibrium. This paper shows that whenever the parties to an organization can renegotiate their incentive scheme after collusion, these inefficiencies can be greatly reduced. Moreover, it might not be possible to prevent collusion and renegotiation in equilibrium. Indeed, if collusion is observable but not verifiable, then the organizations optimal incentive scheme will always be renegotiated. If, instead, collusion is not observable to the principal, both collusion and renegotiation will occur in equilibrium with positive probability. The occurrence of collusion and renegotiation should therefore not be taken as evidence of the inefficiency of an organization.