Buyer Subsidies in an Equilibrium Model of Price Dispersion

Henrik Orzen and Martin Sefton

German Economic Review, 2003, vol. 4, issue 4, 497-501

Abstract: We present a model of equilibrium price dispersion in which a per-unit subsidy to buyers can reduce average prices. The reason is that subsidies have two effects on average prices that work in opposite directions. First, subsidies raise buyers’ willingness-to-pay, and by itself this causes firms to charge higher prices. However, since a higher willingness-to-pay lowers the relative cost of search, subsidies also induce more search. This creates a second effect that puts pressure on firms to reduce prices.We show that the second effect can dominate, thus causing an overall reduction in average price.

Keywords: Price dispersion; search (search for similar items in EconPapers)
Date: 2003
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DOI: 10.1111/j.1465-6485.2003.00091.x

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