Modeling multiple sources of state dependence in random utility models: A distributed lag approach

Abstract

We propose a utility-theoretic brand-choice model that accounts for four different sources of state dependence: 1. effects of lagged choices (structural state dependence], 2. effects of serially correlated error terms in the random utility function (habit persistence type 1), 3. effects of serial correlations between utility-maximizing alternatives on successive purchase occasions of a household (habit persistence type 2), and 4. effects of lagged marketing variables (carryover effects). Our proposed model also allows habit persistence to be a function of lagged marketing variables, while accommodating the effects of unobserved heterogeneity in household choice parameters. This model is more flexible than existing state-dependence models in marketing and labor econometrics. Using scanner panel data, we find structural state dependence to be the most important source of state dependence. Marketing-mix elasticities are systematically understated if state-dependence effects are incompletely accounted for. The Seetharaman and Chintagunta (1998) model is shown to recover spurious variety-seeking effects while overstating habit-persistence effects. Ignoring habit persistence type 1 leads to an underestimation, while ignoring habit persistence type 2 leads to an overestimation of structural state-dependence effects. We find lagged promotions to have carryover effects on habit persistence. Ignoring one or more sources of state dependence underestimates the total incremental impact of a sales promotion. We draw implications for manufacturer pricing.