A three-part tariff refers to a pricing scheme consisting of a fixed fee, a free allowance of units up to which the marginal price is zero, and a positive per-unit price for additional demand beyond that allowance. The three-part tariff and its variations are commonly used in both final-goods and intermediate-goods markets. Recently, the offering of three-part tariffs and the like by dominant firms has become a prominent antitrust issue (e.g., U.S. v. Microsoft Corp. and AMD v. Intel). Existing studies have focused on monopoly models, interpreting the three-part tariff as a price discrimination device. In this paper, I investigate strategic effects of three-part tariffs in a sequential-move game and offer an equilibrium theory of three-part tariffs in a competitive context. I show that, compared with linear pricing equilibrium and two-part tariff equilibrium, a three-part tariff always strictly increases the dominant firm¡¯s (the leader¡¯s) profit when competing against a rival (the follower) with substitute products, in the absence of usual price discrimination motive. To explore the effects of a three-part tariff on welfare, I further perform comparative statics analysis using general differentiated linear demand system. I show that the competitive effect of a three-part tariff in contrast to linear pricing depends on the degree of substitutability between products: Competition is intensified when two products are more differentiated, yet softened when two products are more substitutable. This is in stark contrast with the competitive scenario posed by a two-part tariff: A two-part tariff always enhances competition and gives the highest total surplus of these three pricing schemes. Moreover, the rival firm always gets hurt in both profit and quantity sale when the dominant firm switches from linear pricing to a two-part tariff, yet it enjoys higher profit when the dominant firm moves from a two-part tariff to the more ornate three-part tariff, despite the fact that its quantity and market share are decreased even further. My findings offer a new perspective on three-part tariffs, a perspective which could help antitrust enforcement agencies distinguish the exclusionary three-part tariff from the pro-competitive one.
We extend the traditional literature on bundling and the burgeoning literature on two-sided markets by presenting a theoretical monopoly model of mixed bundling in the context of the portable video game console market¡ªa prototypical two-sided market. We show that the monopoly platform¡¯s dominant strategy is to offer a mixed bundle rather than pure bundle or no bundle. Deviating from both traditional bundling literature and standard two-sided markets literature, we find that, under mixed bundling, both the standalone console price on the consumer side and the royalty rate on the game developer side are lower than their counterparts under independent pricing equilibrium. In our setting, mixed bundling acts as a price discrimination tool segmenting the market more efficiently as well as functions as a coordination device helping solve ¡°the chicken or the egg¡± problem in two-sided markets. After theoretically evaluating the impact mixed bundling has on prices and welfare, we further test the model predictions with new data from the portable video game console market in the early to middle 2000s, during which Nintendo was a monopolist. We employ a reduced form approach, and find empirical support for all theoretical predictions.
Using a game theoretic framework, we show that not only can pay-what-you-want (PWYW) pricing generate positive profits, but it can also be more profitable than charging a fixed price to all consumers. Further, whenever it is more profitable, it is also Pareto-improving. We derive conditions in terms of two cost parameters, namely the marginal cost of production and the psychological cost of the consumer for paying too little compared to her reference price.
The paper makes the
following contributions to the existing literature. First, we endogenize the choice
of pricing strategies—PWYW vs. fixed price. Thus rather than solely focusing
on the profitability of PWYW pricing, we evaluate its profitability vis-a-vis
uniform pricing. To the best of our knowledge this has not been done so far theoretically.
Second, we specify consumer utility to account for both economic and
behavioral considerations. We show that when marginal cost is low and behavioral
considerations are strong, then PWYW pricing can exploit the deadweight
loss present under the uniform price to gain additional profit at the cost of serving
some free riders. Therefore, PWYW pricing can be more profitable than charging
a fixed price especially when the marginal cost is low and the deadweight loss is
high. Third, we demonstrate PWYW pricing is more attractive when the cost of price setting is considerable or the market size is small.
¡°All-Units Discounts and Capacity Constraints¡± with Guofu Tan(Under Review)
All-units discounts (AUD) are pricing schemes that lower a buyer’s marginal price on every unit purchased when the buyer’s purchase exceeds or is equal to a pre-specified threshold. The AUD and related conditional rebates are commonly used in both final-goods and intermediate-goods markets. Although the existing literature has thus far focused on interpreting the AUD as a price discrimination tool, investment incentive program, or rent-shifting instrument, the antitrust concerns on the AUD and related conditional rebates are often their plausible exclusionary effects.
In this article, we investigate strategic effects of volume-threshold based AUD used by a dominant firm in the presence of a capacity-constrained rival. We show that, as compared to linear pricing, the AUD adopted by a dominant firm leads to “partial foreclosure” of a capacity-constrained rival, in the sense that the rival under-supplies strictly below its capacity level, and its profit is reduced. The volume threshold under the AUD committed by the dominant firm helps increase its sales at the expense of the small rival and may hurt the buyer. When the rival’s capacity level is in the range of low values relative to the demand size, the buyer is worse off under the AUD as compared to linear pricing. These results hold even when the rival has a lower marginal cost. The intuition for our findings is that, due to the limited capacity of the rival, the dominant firm, that has a “captive” portion of the buyer’s demand in the context of a single product, is able to use the AUD to leverage its market power on the “captive” to “competitive” portion of the demand, much like the tied-in selling strategy in the context of multiple products. Our analysis applies to other similar settings in which the dominant firm has some “captive” market when it offers “must-carry” brands or a wider range of products.
“Pay-What-You-Want Pricing and Competition: Breaking the Bertrand the Bertrand Trap” with Jose Fernandez and Babu Nahata(Under Review)
Under pay-what-you-want (PWYW) pricing, each consumer has total control over the price she wants to pay, which could potentially result in negative profits for the firm. In the standard Bertrand competition, two identical firms earn zero profits when they both charge the uniform price. We show that when one firm deviates and uses PWYW pricing, both firms could earn positive profits in equilibrium, breaking the so-called Bertrand trap. Although behavioral concerns are the driving factors for voluntary payments under PWYW, they may not always help the viability of PWYW pricing in the presence of competition.
“All-Units Discount as a Partial Foreclosure Device” with Guofu Tan