Matthias Müller makes a case for the particular role of the demand side in research on innovation. Based on a complex agent-based simulation model, he analyzes the versatile mutual relationships between consumers and producers within the innovation process. Instead of oversimplifying the demand side, the book aims to apply important aspects which too often are only applied to the supply side, e.g., the heterogeneity and bounded rationality of economic actors embedded in networks. The results offer a new perspective on the innovation process, proving that the demand side and consumers are important drivers of innovation, which must be included in future research for a full picture.

This dissertation studies the effect of heterogeneity in consumer incomes on outcomes in vertically differentiated markets. When products are differentiated in quality, the consumer's choice of a particular product is a function of her income. Thus, the distribution of incomes plays an important role in shaping the demand for individual products in vertically differentiated markets. The first two chapters of the dissertation study the demand for passenger cars and trucks in the US. These vehicles are differentiated by quality that depends on vehicle's age. The first chapter studies the relationship between the distribution of consumer incomes and the distribution of vehicle vintages using a dynamic, heterogeneous agents model. The model predicts that higher per capita incomes are associated with younger vehicle stocks, if the vehicle ownership rates are high. If the per capita incomes are low, and so are the endogenous vehicle ownership rates, increases in income may lead to the aging of vehicles, by encouraging entry of lower income consumers into vehicle ownership via purchases of older vehicles. Higher levels of income inequality are associated with older vehicle stocks. The second chapter of the dissertation asks whether some of the observed increases in the average age of vehicles in the US can be attributed to the rise in real consumer incomes and the resulting changes in the composition of demand for different vehicle vintages. The dynamic, non-stationary, heterogeneous agents model, estimated on the aggregate vehicle ownership data for the US over the 1967-2001 period, provides a positive answer to this question. The third chapter of the dissertation studies the effect of inequality in consumer incomes on firms' entry, location, and pricing decisions in a static oligopoly model of vertically differentiated products. This paper computes the Nash equilibrium of a three-stage game similar to Shaked and Sutton (1982), to find that greater inequality in consumer incomes leads to the entry of more firms and results in more intense quality competition among the entrants. The consumption inequality is lower and the aggregate consumer welfare is higher in economies with greater income inequality.

This book presents a multi-market framework of market and policy analysis that explicitly accounts for the empirically relevant heterogeneity in consumer preferences and producer characteristics. The explicit consideration of consumer and producer heterogeneity represents a significant departure from the representative consumer and producer that have been at the center of most of the literature on market and policy analysis, and enables the distributional impacts of changes in market conditions and policies to be fully identified. The framework is used to analyze the system-wide market and welfare impacts of a number of changes in market conditions (like changes in consumer preferences, costs and market structure) and policies (like subsidies and taxes) on one of the products in the system. Consistent with a priori expectations, the use of the framework unveils impacts masked by the conventional market and policy analysis.

We study the identification and estimation of preferences in hedonic discrete choice models of demand for differentiated products. In the hedonic discrete choice model, products are represented as a finite dimensional bundle of characteristics, and consumers maximize utility subject to a budget constraint. Our hedonic model also incorporates product characteristics that are observed by consumers but not by the economist. We demonstrate that, unlike the case where all product characteristics are observed, it is not in general possible to uniquely recover consumer preferences from data on a consumer's choices. However, we provide several sets of assumptions under which preferences can be recovered uniquely, that we think may be satisfied in many applications. Our identification and estimation strategy is a two stage approach in the spirit of Rosen (1974). In the first stage, we show under some weak conditions that price data can be used to nonparametrically recover the unobserved product characteristics and the hedonic pricing function. In the second stage, we show under some weak conditions that if the product space is continuous and the functional form of utility is known, then there exists an inversion between a consumer's choices and her preference parameters. If the product space is discrete, we propose a Gibbs sampling algorithm to simulate the population distribution of consumers' taste coefficients.

We study how a durable-goods monopolist upgrades heterogeneous consumers in an infinite horizon model of quality growth. While unable to charge consumers based on their purchase histories, the monopolist may engage in both inter- and intra-temporal price discriminations: charge different prices for goods of the same quality over time and offer different buyback prices for earlier, lower quality versions. First, we consider that there is a frictionless secondhand market such that consumers are anonymous. The monopolist always keeps high-value consumers abreast of the latest development. Moreover, when consumers are similar, the monopolist also upgrades low-value consumers at the same pace as the high-value ones. Otherwise, the monopolist completely ignores low-value consumers and focuses only on the high-value ones. Second, we consider where there is no secondhand market and consumers are semi-anonymous.If consumers and the monopolist are impatient, the outcome is the same as in an anonymous market. Otherwise, besides the efficient pooling equilibrium, there are three interesting inefficient upgrade patterns where high-value consumers always upgrade every period: the low-value consumers (1) keep a constant quality difference from the high-value ones, (2) upgrade in cycles but below the quality frontier, and (3) upgrade to the frontier in cycles.