An Empirical Investigation of the Dynamic Effect of Marlboro's Permanent Pricing Shift

Unlike frequent price promotions, a publicly announced permanent price cut is more likely to cause consumers to strategically shift their decision rules to adapt to the new pricing regime. Research is needed to (1) study whether permanent price cuts cause consumer preference to shift over time; (2) examine how the price cuts affect consumer choices in the short and long run; (3) examine the differential and dynamic effect of price cuts on different consumers. We study these issues in the context of Marlboro's permanent price cut taken by Phillp Morris in 1993 to stop its market-share erosion caused by generic brands, an event often referred to as Marlboro Friday.

We develop a dynamic structural brand choice model with learning and time-varying coefficients to investigate how a permanent shift of pricing policy affects consumer decisions. Using a unique consumer panel data on cigarette purchases before and after this event, we show that consumers adjust their preference to adapt to the new pricing policy. Given the addictive nature of the product, a permanent price cut was effective in encouraging consumers to break their purchase habits and experiment with unfamiliar brands. The newly established consumer preference helps alleviate erosion of Marlboro's market share. Overall, our analysis indicates that the action taken by Philip Morris was a necessary and effective strategy for preserving Marlboro's new pricing policy.

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