INFORMATION ACQUISITION AND DIFFUSION IN MARKETS

Abstract

AbstractConsumers acquire information through their own search efforts or through word‐of‐mouth communication within their social network. Information diffusion leads to free‐riding and less active search. Free‐riding consumers also create important positive externalities, however, as they are more likely to compare prices, imposing competitive pressure on firms. We show how market prices depend on network characteristics and search cost. For example, if search cost becomes small, price dispersion disappears, while prices converge to the monopoly level, with expected prices decreasing for small search cost. Prices are lower in societies with more connections, while price dispersion remains even in fully connected societies.