Comparative Price Signaling by a Multiproduct Firm

Existing work on price signaling finds that, in the absence of reputational or other effects, a firm typically must distort its price above the full-information monopoly price in order to credibly signal the quality of its product. We reexamine this classic problem for the case of a multi-product monopolist. We show that, owing to the multi-product nature of the firm’s pricing problem, relative prices can credibly signal qualities with little or none of the distortion required for a single-product firm. Thus, while factors such as reputation, dynamics, and learning are clearly important in some signaling environments, they are not necessary for a multi-product firm to efficiently signal quality through its prices. We apply our results to versioning and crimping environments where the multi-product firm uses differential prices to screen buyers based on their preferences for quality, and buyers rationally use prices to infer which version is the higher quality. We conclude with a discussion of the implications of our results for cheap talk and provide a novel rationale for resale price maintenance.