Citation:
[Journal:] The RAND Journal of Economics [ISSN:] 1756-2171 [Volume:] 55 [Issue:] 4 [Publisher:] Wiley Periodicals, Inc. [Place:] Hoboken, NJ [Year:] 2024 [Pages:] 603-626
Publisher:
Wiley Periodicals, Inc., Hoboken, NJ
Abstract:
This article analyses how consumers' habit formation and addiction affect firms' pricing policies. I consider both sophisticated consumers, who realize that their current consumption will affect future tastes, and “naive” consumers, who do not. The optimal contract for sophisticated consumers is a two‐part tariff. The main result is that the optimal pricing pattern when the consumer is naive is a “bargain then rip‐off” contract, namely a fixed fee, with the first units priced below cost, and then priced above marginal cost. This holds both under symmetric and asymmetric information about the consumers' degree of sophistication.