Dynamic Stochastic Inventory Management with Reference Price Effects

Xin Chen (), Peng Hu (), Stephen Shum () and Yuhan Zhang ()
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Xin Chen: Department of Industrial and Enterprise Systems Engineering, University of Illinois at Urbana-Champaign, Urbana, Illinois 61801
Peng Hu: School of Management, Huazhong University of Science and Technology, Wuhan, China 430074
Stephen Shum: College of Business, City University of Hong Kong, Kowloon, Hong Kong
Yuhan Zhang: Two Sigma Investments, New York, New York 10013

Operations Research, 2016, vol. 64, issue 6, 1529-1536

Abstract: We analyze the joint inventory and pricing decisions of a firm when demand depends on not only the current selling price but also a memory-based reference price and customers are loss averse. The presence of reference price effect leads to a nonconcave one-period expected revenue in price and reference price. We introduce a transformation technique that allows us to prove under some mild assumptions the optimality of a reference-price-dependent base-stock list-price policy, which is characterized by a base-stock level and a target reference price. In addition, we show that the target reference price is increasing in the reference price, but except in the loss-neutral case, the base-stock level is not monotone in the reference price. We also show that in the steady state of the model with the reference price effect, the optimal price is lower while the optimal base-stock level is higher than their counterparts in the model without the reference price effect.

Keywords: dynamic pricing; stochastic inventory; reference price effects; loss averse; base-stock list-price policy (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (31)

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