SFB 303 Discussion Paper No. A - 49

Author: Bester, Helmut
Title: Bargaining, Search Costs and Equilibrium Price Distributions
Abstract: The paper presents a bargaining approach to equilibrium price dispersions. Consumers choose a seller at random and face search costs to switching to another store. The usual assumption that consumers are price takers is replaced by a bargaining game in which the buyer has the outside option to switch to another seller. In the market equilibrium, the prices at all stores are determined simultaneously as the perfect equilibrium of this game. Differences between the sellers' types create price dispersions; typically the number of active sellers increases with higher search costs. When search costs become small the market equilibrium converges to the competitive equilibrium under perfect information. Thus, the paper provides a solution to Diamond's (1971) monopoly price paradox.
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Creation-Date: April 1986
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