Minimum Price Guarantees in a Consumer Search Model

This paper is the first to examine the effect of minimum price guarantees in a sequential search model. Minimum price guarantees are not advertised and only known to consumers when they come to the shop. We show that in such an environment, minimum price guarantees increase the value of buying the good and therefore increase consumers’ reservation prices. This increase is so large that even after accounting for the fact that some consumers will buy at lower prices, firms profits are larger under minimum price guarantees than without it. We also show that an equilibrium where all firms offer minimum price guarantees does not exist because of a free-riding problem. Minimum price guarantees can only be an equilibrium phenomenon in an equilibrium where firms randomize their decision to offer these guarantees. JEL Classification: D40; D83; L13