Product and Price Competition in a Two-Dimensional Vertical Differentiation Model

Mark B. Vandenbosch and Charles B. Weinberg

In this paper, the one-dimensional vertical differentiation model (Shaked and Sutton 1982, Moorthy 1988) is extended to two dimensions and an analysis of product and price competition is presented. A two-stage game theoretic analysis in which two firms compete first on product positions and then on price is conducted. Closed from equilibrium solutions are obtained for each stage in which competitors are unrestricted in their choices of price or product positions. A significant finding of this research is that unlike the one-dimensional vertical differentiation model, firms do not tend towards maximum differentiation, although this solution is possible under certain conditions. When the range of positioning options on each of the dimensions is equal, MaxMin product differentiation occurs. That is, in equilibrium, the two firms tend to choose positions which will represent maximum differentiation on one dimension and minimum differentiation on the other dimension.

(Competitive Strategy; Game Theory; Product Policy, Pricing Research)