To Bargain or Not to Bargain: The Role of Fixed Costs in Price Negotiations

Abstract

Retailers routinely allow consumers to negotiate a discount off the posted price for big-ticket items such as home appliances and automobiles, and on online platforms such as Amazon and eBay. The profitability of such a strategy, relative to selling only at posted prices, depends on consumers’ willingness to initiate a negotiation and ability to negotiate a discount. In this article, the authors incorporate consumers’ decision of whether to negotiate into a demand model. The decision to negotiate hinges on how the expected discount from negotiation compares with the magnitude of a nonpecuniary cost that the consumer incurs by initiating the negotiation. The current study shows how this cost can be nonparametrically identified, separately from consumers’ ability to get a discount and marginal utility of income. The application of this model to individual-level data on refrigerator transactions reveals that, conditional on negotiating, consumers get, on average, 41% of the available surplus and incur an average cost of $28 to initiate a negotiation. The magnitude of these nonpecuniary costs’ not only affects retailer profits but also has implications for pricing strategy and consumer surplus. Ignoring these costs results in biased estimates of consumers’ willingness to pay, translating to annual losses of $1.6 million in the current study setting.

Sequential Bargaining in the Field: Evidence from Millions of Online Bargaining Interactions*

“…Larsen (2014) and Larsen and Zhang (2017) testing predictions of a model of incomplete information. Shelegia and Sherman (2014) and Jindal and Newberry (2017) study the costs of bargaining using data on retail negotiations. Finally, Bagwell et al (2017) documented a number of data patterns from negotiated trade agreements, where they observe back-and-forth offers.…”

Search Frictions and Market Power in Negotiated-Price Markets

“…Their data sets allow them to measure the duration of contractual relationships with incumbent suppliers. See also Jindal and Newberry (2017) for home appliances. cost of $1,150.…”

The effect of negotiations frequency on the vehicles price in public sector in Indonesia

“…Having this facility increases the opportunity to negotiate substantially. A recent study by Jindal & Newberry (2018) highlights the benefit of price negotiation in the retail home-appliance market. Comparing transactions between those who bargained and those who bought on a fixed price, they found evidence to suggest that bargaining is the dominant strategy for most consumers.…”