Product‐line pricing with dual objective of profit and consumer surplus

Woonghee T. Huh and Hongmin Li

Production and Operations Management, 2023, vol. 32, issue 4, 1223-1242

Abstract: In many settings, consumer surplus directly impacts a firm or organization's objective, and the profit‐only objective becomes inadequate. Our paper is the first to consider the dual objective of profit and consumer surplus in multi‐product pricing under the multinomial logit demand, where the prices are continuously set. We define a firm's marginal consumer surplus as its marginal contribution to the expected customer utility transformed into monetary unit. Although the profit is concave in the choice probability space, the marginal consumer surplus is convex, complicating the analysis. We identify the optimal monopoly pricing solution and develop solution approaches for the equilibrium solutions of both price‐competition and quantity‐competition oligopolies. In the monopolistic setting, we solve the optimal solution in a near‐closed‐form expression, and show that the firm's markup and profit decline as its emphasis for marginal consumer surplus increases and eventually drops to zero when the firm turns into a social welfare maximizer. Therefore, social welfare is maximized only when the monopolist is willing to endure zero profit. In competitive settings, if one firm's emphasis on marginal consumer surplus increases, then the improvement in marginal consumer surplus can magnify through competitive forces, reflected in reduced equilibrium prices for all firms. Moreover, we find that, while the overall marginal consumer surplus always increases with any firm's weight on marginal consumer surplus in its objective (referred to as the CS weight), a firm's marginal consumer surplus increases in its own CS weight but decreases in other firms' CS weight. Finally, we prove that, all else equal, a firm with a higher CS weight can earn a higher profit than its profit‐maximizing competitors, which is counterintuitive. In the quantity competition, a firm may even increase its absolute profit level by increasing its CS weight.

Date: 2023
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