Consumer Heterogeneity and Surplus under Two-Part Pricing

The B.E. Journal of Theoretical Economics, 2018

Sreya Kolay and Rajeev K. Tyagi

Abstract

For many products, consumers need to sign a pricing contract with the seller under uncertainty about their future consumption needs. Recent empirical literature has consistently pointed out that consumers may not be good forecasters of their future consumption needs, and may suffer from overestimation or underestimation biases. This paper considers consumers who are heterogeneous in their expected demands arising from heterogeneity in their biases about their forecasted consumption needs. We show that the optimal menu of two-part pricing in this case leads to the lower-expected demand segment getting exactly the same surplus on the average as the higher-expected demand segment, or the higher-expected demand segment getting even lower surplus on the average than the lower-expected demand segment. We show directions of externalities these unbiased, positively-biased, and negatively-biased segments impose on one another, and how they can be different under no price discrimination, and second- and third-degree price discrimination. We also examine the effects of extent of uncertainty and bias on optimal pricing plans and consumer surplus across segments.

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