Location and Product Quality

We examine a horizontal product differentiation duopoly model where firms are also differentiated with respect to the quality of their products. Firms first choose their locations and then compete in prices. It is shown that, whereas the low quality firm prefers to locate as far as possible from its competitor, the same is not true for the high quality firm, unless the quality difference is small enough. In addition, the paper suggests an explanation for spatial agglomeration based on incomplete informati on considerations. Because it is less costly for a high quality firm to locate close to another firm, choosing a location close to an existing firm signals high quality.