When a car dealership closes, consumers shouldn’t look too far for deals: research suggests they may find them at dealerships nearest to the closed one.
Chicago Booth’s Pradeep K. Chintagunta, Georgia Tech’s Cem Ozturk, and the University of North Carolina’s Sriram Venkataraman studied what happened after Chrysler closed a quarter of its US dealerships in June 2009 as part of its bankruptcy filing. They analyzed monthly retail pricing data between October 2008 and September 2010 for all new cars on dealership lots within 30 miles of closed dealerships, excluding those within 30 miles of closed Chrysler businesses that switched to another brand after the shutdown, and any GM dealer slated for closure. They then compared a set of cars, from all manufacturers, whose models were available in three areas: up to 10 miles from the shuttered lots, 10–20 miles away, and 20–30 miles away.
The best prices, they find, were at dealerships closest to the closed lots: prices rose an average $265 at dealers within 10 miles; $1,034 at dealers 10–20 miles away, and $780 at dealers 20–30 miles away.
The researchers hypothesized that reduced competition would push prices up, and car lots closest to an exiting dealer stood to gain the most from reduced competition. The data however, show that while prices indeed did go up, they did not increase as much at the dealerships closest to the closed Chrysler lot.
The reason, Chintagunta explains, is due to two forces. The first is that of reduced competition, but there’s also an opposing force related to search costs. Shoppers save time and money by concentrating their search in one location, and when dealers cluster together, they benefit from higher demand related to that search pattern.
But when a dealership closed, the nearest dealers suffered the most from that loss of demand and “needed to keep prices low to compensate for the increased search costs,” he says. “As we move farther away from the closed dealership, those other dealerships did not benefit from the lower search costs as much in the first place, so they felt less need to keep prices low to attract consumers.”
The data reveal the net effect of the two forces—and dealers 10–20 miles away were able to raise prices the most.
The research also suggests that incumbents’ price reactions are heterogeneous and vary by car and country of origin: the marginal pricing effect for luxury cars and Asian brands is less than that for the more mainstream categories (such as trucks, vans, or wagons) and domestic brands, which are closer substitutes to the brands that the closed dealerships carried.