Competitive strategy when consumers are affected by reference prices

The article presents a model that analyzes the optimal strategy of multi-product firms when consumers are affected by reference prices. Generally, the stronger the consideration of reference prices is, the more intensified the competition is and the lower are the prices and profits. In some cases it becomes optimal to sell the good for which consideration of reference prices is stronger at a negative markup. The model offers several practical implications, for example, suggesting that firms should usually avoid focusing advertisements on the price differences between the firm and its competitors.