The Incumbent Firm’s Response to Market Encroachment: Strategic Deterrence under the Reference Price Effects

In perishable goods markets, the encroachment of imitation products has complicated the competitive landscape faced by the incumbent firms. This study examines a two-period dynamic game model that incorporates vertical reference price effects into the analysis of incumbent firm’s response to imitation product encroachment in perishable goods markets. Specifically, the model analyzes the incumbent firm’s optimal pricing strategy, expected profits, and social welfare outcomes by the varing values of the reference price effects, the quality differentiation, and the consumers’ assessment costs for imitation products. The results demonstrate that the consumers’ assessment cost for the imitation products is a pivotal determinant. Lower assessment costs accommodate the imitator to encroach. When the assessment costs are in the medium range, the incumbent firm may strategically lower prices to deter the encroachment. While the assessment costs exceed certain thresholds, the firm with imitation products chooses not to encroach on the market. Under the reference price effect, consumers tend to behave more strategically: the quality differences exacerbate strategic waiting behavior; while increased price sensitivity constrains the incumbent’s pricing power, pressuring it to reduce prices. Furthermore, the presence of a potential market entrant-even when actual encroachment doesn’t occur-can improve allocative efficiency, enhancing overall social welfare. This finding offers a theoretical basis for the incumbent’s sustainable strategy: by adjusting prices and offering differentiated services to reinforce quality advantages, the incumbent firm should actively shape the competitive landscape and maintain its market position to enhance social welfare.