Price Signaling and Reputation Building : Evidence from a Consulting Platform

Earning a good reputation is crucial for the survival of new firms on online retailing and service platforms. With a dynamic price signaling model, we show that a high-quality firm can signal its unobserved quality by setting a lower introductory price than its low-quality counterpart. After accumulating sufficient favorable reviews, the high-quality firm will raise its price and enjoy a quality premium. Using data from Zaihang, a consulting service platform, we find empirical evidence that experts with high unobserved ability indeed adopt low introductory prices and exhibit a rising price dynamic over time. We use the performance of the expert on another platform as an instrument for the expert's ability on Zaihang to provide evidence that the relationship is causal. Our empirical findings reject alternative models in which firms do not know their own types, or consumers can observe firm types