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Measuring the competition effects of price-matching guarantees

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Abstract

The theoretical literature on price-matching guarantees (PMGs) finds that this policy has both a competition-softening and a competition-enhancing effect. Which effect dominates depends on market structure. This paper is the first to propose a structural framework to measure the impact of PMGs on market competition through a counterfactual analysis. The structural model proposed here can be estimated using price data alone. I estimate the model using data from the automotive tire market, and I find that the competition-softening effect is stronger than the competition-enhancing effect. PMGs keep transaction prices between 1% and 8% higher than they would be in the absence of such policy. PMGs exert the strongest effect on price-sensitive consumers, who tend to be the poorest. This consumer segment pays up to 10% higher prices in the presence of PMGs. The tire market has some unique features that facilitate the competition-enhancing effect of PMGs. Hence, that the competition-softening effect dominates even in the tire market suggests that PMGs may increase prices in many other markets, too.

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Notes

  1. Hviid and Shaffer (1999) provide two examples: the day after Esso announced the introduction of a PMG, a headline in the Financial Times read “Petrol Rivals on Price-War Footing”; after Tesco’s decision to adopt price-matching, a headline in the Financial Times read “Tesco Launches a New Price-War.”

  2. According to Modern Tire Dealer ??http://www.moderntiredealer.com/article/312475/competing-against-your- ??supplier and the Stevenson Company ??https://stevensoncompany.com/amazon-online-retailer-share-lame- ??dominating-game/.

  3. Alternatively, it could be assumed that uninformed consumers become informed about the pricing strategies of n firms after purchase with probability q.

  4. A firm that offers a PMG needs to advertise it, to acquire the software necessary for processing the refunds, and to hire qualified personnel to work with said software.

  5. Both πPMG(p) and πNO(p) are characterized in Online Appendix ?? A.

  6. In the equilibrium analysis presented in Online Appendix ?? A, I discuss how z is obtained.

  7. Moorthy and Winter (2006) survey 46 retailers and ask for the managers’ perception of usage rates of PMGs. They find that managers perceive that PMGs are used by 5% of consumers.

  8. DMAs are defined by Nielsen Media Research as geographic areas consisting of groups of counties that share the same home-market television stations. DMAs are geographical areas of roughly the same size as Metropolitan Statistical Areas.

  9. https://www.onlyinyourstate.com/illinois/10-richest-counties-il/ Published December 30, 2015. Illinois has 102 counties.

  10. All calls were made between November 3, 2014, and November 6, 2014. The details regarding how I asked whether a firm offers a PMG appear in Online Appendix ?? C.

  11. Forty-two stores did not carry the tires we were asking for, and eight stores did not answer the phone. Of the 346 stores in the data, 337 carry the Defender tire and 278 carry the Premier tire.

  12. The model cannot identify the distribution of costs that firms face to provide a PMG. Instead, it is only possible to identify the share of firms that, in equilibrium, choose to offer a PMG (which is denoted by α). This, however, does not constitute a problem, because the distribution of costs that firms face to provide a PMG has no implications on the counterfactual equilibrium.

  13. The equilibrium price distributions are computed using numerical methods, where there is a discrete set of potential prices. I therefore compute the distance between these discrete equilibrium price distributions and the observed price distributions.

  14. These two tires are directed toward different consumer segments. The Premier is a grand-touring tire geared toward owners of fast premium cars, while the Defender is a standard touring tire for regular cars.

  15. The bootstrap resampling method (Efron, 1982) has been frequently used to estimate standard errors and confidence intervals in economics in recent years (e.g., Ackerberg and Gowrisankaran, 2006).

    Table 4 Parameter estimates
    Full size table

  16. Even if consumers have a spare tire, it is typically a smaller tire that is recommended not to be used for more than 50 miles.

  17. Because uninformed consumers search at random and purchase at the first firm they visit, only 40% of uninformed consumers purchase from a PMG store. For the Defender, where n = 2, uninformed consumers who purchase at a PMG store will collect refunds only if the price of the other store is lower. Because the probability that a PMG store has a lower price than a non-PMG store is higher than 50%, it follows that at most half of the consumers who purchase from a PMG store collect refunds.

  18. In the base model, I assume, for simplicity, that informed consumers are costlessly informed about prices of n firms. In the robustness section, presented in Online Appendix ?? F, I consider the case in which these consumers face a search cost per firm they sample, and they choose how many firms to contact; in this more realistic setting, I also estimate the search cost of matchers and shoppers.

  19. Efron and Tibshirani (1986) and Efron (1987) suggest that 1,000 bootstrap resamples are usually sufficient to compute reasonably accurate confidence interval estimates.

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  1. Naveen Jindal School of Management, University of Texas at Dallas, 800 West Campbell Road, Richardson, TX, 75080, USA

    Samir Mamadehussene

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Correspondence to Samir Mamadehussene.

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Mamadehussene, S. Measuring the competition effects of price-matching guarantees. Quant Mark Econ 19, 261–287 (2021). https://doi.org/10.1007/s11129-021-09242-1

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