Quality Strategies in Frictional Search Models

ABSTRACT We explore quality‐based strategies in frictional online markets using a targeted search model with vertical differentiation and heterogeneous agents. Firms self‐select into high‐ or low‐quality segments and compete in prices. We demonstrate that reduced search costs amplify the prominence of quality, leading to an increase in the market share of high‐quality designs. While low‐quality firms dominate when cost differentials are large, declining search frictions amplify the prominence of the quality attribute. The raised importance of quality triggers dual effects: a higher price sensitivity, leading to further price reductions across all products, and a boost in demand for high‐quality designs. Our findings offer insights into the recent dynamics of online markets, explaining the expansion of high‐quality segments and providing a strategic framework for firms to navigate evolving consumer preferences in increasingly transparent markets.