Costly Search and Design

Firms compete by choosing both a price and a design from a family of designs that can be represented as demand rotations. Consumers engage in costly sequential search among …rms. Each time a consumer pays a search cost he observes a new o¤ering. An o¤ering consists of a price quote and a new good, where goods might vary in the extent to which they are good matches for the consumer. In equilibrium, only two designstyles arise: either the most niche where consumers are likely to either love or loathe the product, or the broadest where consumers are likely to have similar valuations. In equilibrium, di¤erent …rms may simultaneously o¤er both design-styles. We perform comparative statics on the equilibrium and show that a fall in search costs can lead to higher industry prices and pro…ts and lower consumer surplus. Our analysis is related to discussions of how the internet has led to the prevalence of niche goods and the "long tail" phenomenon. Contact info: Bar-Isaac: [email protected]; Department of Economics, Stern School of Business, NYU, 44 West 4th street 7-73, NYC, NY 10012 USA; Caruana: caruana@cem….es; Casado del Alisal 5, 28014 Madrid, Spain; and Cuñat: [email protected], Room A450, Department of Finance, London School of Economics, Houghton Street, London WC2A 2AE, U.K.