Do you often end up purchasing a product, thinking it was the right decision, but only to find out several months later that there was a better option out there? Well, you are not alone. So far, research has shown that for companies that sell similar goods, confusing consumers can raise their profits. However, in a new study conducted by Prof. Shuo Liu at theGuanghua School of Management, Peking University(joint with his coauthors Prof. Andreas Hefti and Prof. Armin Schmutzler), for firms that sell differentiated products, doing so might just hurt themselves. Why is this the case? read the article below to find out more.
Research Background
When purchasing goods such as smartphones, motor vehicles or insurance, consumers often make mistakes. To a certain extent, such mistakes reflect confusion. Firms can influence the degree of this confusion through their own activities. On the one hand, firms can engage in measures to educate consumers, such as to describe products transparently to facilitate comparison. On the other hand, firms have means to confuse consumers, such as to emphasize irrelevant product details rather than those characteristics that really matter to consumers.
Literature Review
Do firms seek to educate or confuse their consumers? The existing literature might suggest that the answer is clear-cut. Oligopolistic producers of homogeneous goods suffer from the temptation to undercut each other's prices, resulting in a zero-profit equilibrium under well-known conditions.
The literature on behavioral industrial organization has also shown that obfuscation techniques often allow firms to escape the "Bertrand trap", allowing suppliers of homogeneous goods to secure positive profits in environments where this would otherwise be impossible (see, e.g., Gabaix and Laibson, 2006; Spiegler, 2006, 2014; Piccione and Spiegler, 2012; Chioveanu and Zhou, 2013; Heidhues and Kőszegi, 2017).
However, this paper points to the limitations of such reasoning. By studying the connection between the preference distribution of consumers and the strategic use of communication (e.g., marketing campaigns) by firms, we show that introducing (or exacerbating) consumer confusion may hurt firms when consumers have heterogeneous preferences for the firms' products.
Research Method
We introduce a general framework to uncover under which conditions strategic contestants (firms, political candidates, etc.), who compete for heterogeneous agents (consumers, voters, etc.), communicate their choice options clearly or ambiguously, respectively. This framework allows us to extend our analysis beyond the market context to contest settings.
We formalize the above notions in a two-stage complete information game. In the communication stage, both contestants simultaneously choose their communication strategies. In the subsequent effort stage, they decide how much effort to exert, upon observing the chosen communication profile. Finally, each agent selects the contestant (buys a product, casts a vote) which she perceives as offering the higher value to her.
Communication and Agent Confusion
Agents' true preferences are characterized by a distribution of match values for different contestants. Then, the communication strategies chosen by the contestants jointly determine the agents' perception of their match values, potentially distorting comparisons. In particular, confusion arises if the perceived and true valuations disagree. In our main analysis, we assume agents are confused in their comparisons in an unsystematic way, meaning that agents cannot be systematically fooled. This assumption is consistent with the extensive evidence in marketing and more broadly in perceptual psychology and neuroscience, documenting that consumer confusion is manifested through unsystematic and heterogeneous perception mistakes.
Effort Competition
The unbiasedness assumption notwithstanding, reality suggests that contestants may have powerful means to bias the audience in their favor. Examples include price reduction (a lower price increases the relative attractiveness for all consumers) and certain advertising measures (a more prominent option captures more attention). In our model, such activities are captured by the second-stage effort variable.
Research Findings
Our main finding is that the contestants may prefer to educate rather than confuse, which is in sharp contrast with the case of homogeneous agents.
Our main insight is that the distribution of true agent preferences plays a decisive role for whether contestants choose an educating or a confusing communication strategy. Education emerges if true preferences are polarized. Intuitively, this reflects the interplay between the shape of true preference distribution and the effect of communication: When there are relatively few truly indifferent agents to begin with, confusion would lower the payoffs of the contestant, as it would intensify the competition by converting more "extremists" with strong opinions into undecided "moderates" than vice versa.
By contrast, when true preferences are indecisive, so that they are characterized by a concentration of agents who are indifferent between choice alternatives, confusion arises and the welfare effects are more detrimental than for homogeneous agents, because now agents may choose dominated options.
Both polarized and indecisive distributions of preferences are relevant in reality. For example, consider the hospitality industry. It is hard to imagine that many guests will be indifferent when faced with the choice between a "family" hotel and a "business" hotel. Instead, most consumers will clearly prefer one alternative over the other, resulting in a polarized preference distribution across hotel categories. By contrast, some food products such as different brands of cereal or soft-drinks, seem to feature a large share of consumers that are truly indifferent between the various choice options, suggesting indecisive preferences. A famous case in point is the indifference of many study participants between Coke and Pepsi in blind tests (see Van Doorn and Miloyan, 2018). Overall, our paper provides a unified theoretical framework to understand why consumer confusion may be a more persistent feature in some industries than in others.
Application to Political Competition
The issue of confusion and strategic education/obfuscation is not specific to consumption. For example, political candidates facing heterogeneous voters can reduce confusion by stating their policies clearly, or they can "becloud their policies in a fog of ambiguity" (Downs, 1957). When applied to political competition for voters, our model offers a novel rationale for why parties may choose ambiguous platforms rather than specifying their intended policies clearly: This happens when the voter preferences are indecisive, but not when they are (already) polarized.
About the Author
Professor Shuo Liu is Assistant Professor of Economics at the Peking University Guanghua School of Management. His research interests include industrial and organizational economics, game theory, and mechanism design. His papers have been published in top academic journals in economics, such as the RAND Journal of Economics, Theoretical Economics, European Economic Review, Games and Economic Behavior, Economic Theory, etc.
