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1-level buyers and 0 and 1-level sellers.

In these populations the buyers have the upper hand. They quickly identify those sellers that provide the highest quality goods and buy exclusively from them. The sellers do not benefit from having deeper models; in fact, the percentage of times 1-level sellers win is less than that of similar 0-level sellers because the 1-level sellers try to charge higher prices than the 0-level sellers. The 1-level buyers do not fall for this trick- they know what quality to expect, and buy more from the lower-priced 0-level sellers. We have here a case of erroneous models- 1-level sellers assume that buyers are 0-level, and since this is not true, their erroneous strategies lead them to make bad decisions.

As the number of competing (i.e. offering the same quality) sellers increases, the 1-level sellers increase their profits because the 0-level sellers do not win as much (increased competition means everybody wins less) and take longer to converge on the best price. The 1-level seller takes advantage of this time lag but, in the end, he can not do better than 0-level sellers.

Jose M. Vidal
Wed Aug 21 07:12:37 EDT 1996