CONSUMER SEARCH AND FIRM AGGLOMERATION: IMPERFECT INFORMATION, HETEROGENEOUS SEARCH COST, AND TWO-STEP SEARCHING

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1 0 CONSUMER SEARCH AND FIRM AGGLOMERATION: IMPERFECT INFORMATION, HETEROGENEOUS SEARCH COST, AND TWO-STEP SEARCHING BY THANIN WANGVEERATHANANON A DISSERTATION SUBMITTED IN PARTIAL FULFILLMENT OF THE REQUIREMENT FOR THE DEGREE OF DOCTOR OF PHILOSOPHY (ECONOMICS) (ENGLISH LANGUAGE PROGRAM) FACULTY OF ECONOMICS THAMMASAT UNIVERSITY ACADEMIC YEAR 2013

2 CONSUMER SEARCH AND FIRM AGGLOMERATION: IMPERFECT INFORMATION, HETEROGENEOUS SEARCH COST, AND TWO-STEP SEARCHING by Thanin Wangveerathananon A dissertation submitted in partial fulfillment of the requirement for the degree of Doctor of Philosophy (Economics) Faculty of Economics, Thammasat University Bangkok, Thailand July 2014 Is here by approved: Chairman, Dissertation Committee: Advisor, Dissertation Committee: 4 ~ ~ "'(;ofk Arayah Preechametta) Member, Dissertation Committee: Member, Dissertation Committee: (Dr. Pacharasut Sujarittanonta) Dean: (Prof. Dr. Sakon V aranyuwatana)

3 1 To Lao Jek, for all of his bless for me. To all my teachers, for setting me to the path of an economists. To my family, for their unconditional love and support. To Puay, for the love of my life. And to the world, for being such a good place to live.

4 2 ABSTRACT Conventional microeconomics concludes that firms prefer high demand but low competition, however, many locations where firms selling a homogeneous product agglomerate in are evidenced. When the consumers have imperfect information regarding the selling locations and location search is prohibited, each location is identical to them and they random uniformly for a location to visit. When the number of locations increases, the expected demand in each location decreases which creates demand uncertainty in each location. The existence of an operating store in a particular location guarantees that it has a sufficient demand to sustain its business. An entering firm selling a similar product must consider the tradeoff between locating in the same location as the existing store and face a direct competition or locating in other areas with low competition but uncertain demand. This tradeoff is the main study of this paper. If the number of locations exceeds the threshold level, all firms are willing to agglomerate in the location with a certain demand. Otherwise, firms in location with uncertain demand can coexist with firms in location with a certain demand. Due to the simplicity of Burdett and Judd (1983), the number of competing firms has no effect on the equilibrium price distribution and expected price. In chapter two, heterogeneous search cost is introduced to create heterogeneity in search behavior between the two groups of consumers. Local consumers have low search cost and compare price more intensively than the foreign who have high search cost. As a result, the location with higher number of local consumers has lower expected price. This finding has a negative effect on agglomeration since lower expected price discourage firms from locating in the location with high number of local consumers. Chapter three introduces the density dependent search cost, that lowers cost per price sample in the location with higher density of firms, into the model in chapter one. Lower cost per price sample intensifies the consumers price search behavior and increases the degree of price comparison. Consequently, the number of firms has an effect on the price distribution such that higher number of firms lowers the expected price. The consumers location distribution is endogenized using the two (1)

5 3 steps searching, which is a search method that doubles the process of non-sequential search. In the first step, consumers sample for a highest expected utility location from the utility distribution derived from the outcome of the second step, where consumers sample for a lowest price firm from the price distribution of the arrival location. As a result, the consumers location distribution is a function of the firms location distribution. Firm agglomeration in a particular location creates a popularity of that location since it increases the number of the optimal location sample which increases the probability that its location will be discovered. The equilibrium location distribution of the consumers and firms is obtained using numerical analysis. JEL Classification: C72, D43, L10, L13, R12, R32 Keywords: agglomeration, imperfect information, price dispersion, spatial economics, non-cooperative games (2)