Roman Inderst, Martin Obradovits

Manufacturers frequently resist heavy discounting of their products by retailers. Since low prices should increase demand and manufacturers could simply refuse to fund deep price promotions, such resistance is puzzling at first sight. We develop a model in which price promotions cause shoppers to evaluate the relative importance of quality and price against a market-wide reference point. With deep discounting, consumers perceive quality differences as less pronounced, eroding brand value and the bargaining position of brand manufacturers. This reduces their profits and may even lead to a delisting of their products. By linking price promotions to increased one-stop shopping and more intense retail competition, our theory also offers an explanation for the rise of store brands.