A little over a month ago, I posted that at the University of Regina soft drinks sold in vending machines serviced by the Coca-Cola distributor were priced at $2/bottle, while those sold in machines serviced by Pepsi were priced at only $1.75/bottle. The price difference puzzled me:
What really puzzles me, though, is why the prices are different and how long this price differential will last. Are the drinkers of Coca-Cola products such die-hard fans of the products that they gladly pay the 25-cent difference? I can imagine there are some for whom the price elasticity of demand is pretty small, but there must be lots who'd be happy to switch to Pepsi products to save the 25 cents.
I was prescient (no tarot cards; just plausible economics). Two weeks later, the prices in the Pepsi-serviced machines were raised to $2/bottle.
One would expect that products which are nearly homogeneous (please, no vehement comments about the differences between Coke and Pepsi; I said "nearly") would have identical prices (or nearly so). I was surprised that the prices weren't the same last month, and I'm not surprised that the prices are identical now.
What I don't know is the dynamic that led Pepsi to raise the prices on their products rather than Coke to lower its prices. From a transaction cost perspective, it makes some sense (Canada has a two-dollar coin) because it cuts down on change making in the machines.
Do you think there was any communication between the two distributors that led to Pepsi's price increase? If so, that would probably be illegal. But communication wasn't necessary. My guess is that Pepsi said to itself, "Why charge less if Coke is going to meet our lower price? Why not raise our price instead? After all, we won't lose many sales compared with the alternative of having us both charge $1.75/bottle."
This is classic convergence to a joint-maximizing price. And the simple prisoners' dilemma model needs to be expanded to explain why price raising, not price cutting, is the dominant strategy in similar duopolistic situations.