Monopolistic competition and exclusive quality

In this paper I adapt a classic model of monopolistic competition where products are differentiated by quality, in order to study a market in which high-quality products can only be enjoyed by users with sufficient ability. Casting the model in the context of higher education – where selective colleges pledge quality by excluding low-ability students –, I show that there are two equilibrium market segmentations: one in which highly selective colleges serve high-income high-ability students, and another in which highly selective colleges are cheaper than the less selective competitors that cater to low-ability high-income students. I provide an example to illustrate the welfare implications of these two market configurations.