Abstract

In many markets, consumers face costs of switching to a competitor’s brand that is ex ante undifferentiated even when the two firms’ brands are functionally identical. This study examines the relationship between pricing and consumers witching costs or “brand loyalty”. Moreover, it suggests that in the presence of switching costs, firms will charge lower prices in the first period to gain market share that will be valuable to them in the future and therefore charge higher prices later utilizing the market shares they have gained in the first period. This will give firms a degree of monopoly power over their existing customers, leading to higher prices and profits in the future. This will happen if firms have perfect foresight, and it may lead to either higher or lower equilibrium profits than if firms behave myopically.

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