Habit formation and oligopolistic competition

Abstract

In this paper I analyze competition in markets with habit formation. I model a two-period game in which two firms enter a market sequentially. I find that the second firm’s product is similar to the original one, but not exactly the same. The model also applies to competition in different markets that share a characteristic; for example, sweetness is a common characteristic of carbonated soft drinks and ice-cream, and consumption of a product in one market affects the preferences for products in the other market. I find that new firms produce products with similar characteristics not only to a product that has entered the same market, but to products that have entered other markets with common characteristics.