The Effect of Product Variety in Multiproduct Retail Pricing : The Case of Supermarkets

The search literature offers several mechanisms by which a multiproduct retailer's offering of a larger variety affects consumers' search behavior and hence prices. Among them are (1) higher sales to be generated when lower prices discourage consumers' further search; and (2) more pricing power due to improved consumer expectations about consumer-product match valuations. The former concerns independent categories and draws a negative relationship while the latter concerns substitutes within categories and draws a positive relationship. To examine the effect of a retailer's variety offerings on price levels using scanner data, which encompass over three quarters of a million products, we develop a product variety index that is a multiplication of variety in category (more independent) offerings and variety in brand (more substitutable) offerings within categories. We find stores offering a larger variety of products tend to set higher prices but advertise discounts more frequently. In addition, we find the effect of a store's additional offering on the prices is positive when it adds to brand variety and negative when it adds to category variety for a majority of the stores we consider. Thus, our findings are in support of both the theories that purport to draw opposite conclusions