On the use of low-price guarantees to discourage price cutting

This paper formulates a novel test to assess whether, and to what extent, firms might be using low-price guarantees to discourage their rivals from cutting prices. The test is based on a comparison of paired observations of advertised prices that are set by competing firms at the same point in time on similar items, where one price is set by a firm that has a low-price guarantee and the other by a firm that does not have a low-price guarantee. Using data on retail tire prices, we find that the majority of paired observations involving firms that have price-matching guarantees are consistent with what one would expect if firms were using them to discourage price cutting, whereas the majority of paired observations involving firms that have price-beating guarantees are not. This suggests that price-matching and price-beating guarantees may be serving different purposes. The evidence also suggests that guarantees that apply to advertised prices only may be serving different purposes than guarantees that apply to both advertised and selling prices. © 2006.