Nonparametric Estimation of Search Costs for Differentiated Products: Evidence from Medigap

Abstract

This article develops a method to estimate search frictions as well as preference parameters in differentiated product markets. Search costs are nonparametrically identified, which means our method can be used to estimate search costs in differentiated product markets that lack a suitable search cost shifter. We apply our model to the U.S. Medigap insurance market. We find that search costs are substantial: the estimated median cost of searching for an insurer is 30 dollars. Using the estimated parameters we find that eliminating search costs could result in price decreases of as much as 71 dollars (or 4.7%), along with increases in average consumer welfare of up to 374 dollars.