Switching Costs and Equilibrium Prices

Posted by D. Daniel Sokol

Luis Cabral (NYU) explores Switching Costs and Equilibrium Prices.

ABSTRACT: In a competitive environment, switching costs have two effects. First, they increase the market power of a seller with locked-in customers. Second, they increase com- petition for new customers. I provide conditions under which switching costs decrease or increase equilibrium prices. Taken together, the suggest that, if markets are very com- petitive to begin with, then switching costs make them even more competitive; whereas if markets are not very competitive to begin with, then switching costs make them even less competitive. In the above statements, by "competitive" I mean a market that is close to a symmetric duopoly or one where the sellers' discount factor is very high.