Competition in Prices and Service Level Guarantees

Ramesh Johari () and Gabriel Weintraub ()
Additional contact information
Ramesh Johari: Management Science and Engineering, Stanford University Author-Workplace-Homepage: http://www.stanford.edu/dept/MSandE/, http://www.stanford.edu/~rjohari/
Gabriel Weintraub: Columbia Business School

No 07-21, Working Papers from NET Institute

Abstract: In this paper we study the implications of service level guarantees (SLGs) in a model of oligopoly competition where providers compete to deliver a service to congestion-sensitive consumers. The SLG is a contractual obligation on the part of the service provider: regardless of how many customers subscribe, the firm is responsible for investing in infrastructure, capacity, or service quality so that the congestion experienced by all subscribers is equal to the SLG. First, we analyze a game where firms compete by setting prices and SLGs simultaneously. We establish that this game can be reduced to standard oligopoly models of price competition, greatly simplifying the analysis of this otherwise complex competitive scenario. Notably, we find that when costs in the original game are convex, the resulting equivalent pricing game also has convex costs. Further, for a broad class of models exhibiting constant returns to investment, the resulting pricing game is equivalent to a standard price game with constant marginal costs; many loss systems, such as those modeled by the Erlang loss formula, exhibit constant returns to investment. We then consider another commonly used contractual agreement between firms and customers: firms first set prices and investment levels simultaneously, and then consumers choose where to subscribe. In this case, firms provide the best possible service given their infrastructure, but without an explicit guarantee. Using the Nash equilibria of the games played by firms, we compare this competitive model with the model where firms set prices and SLGs, in terms of the resulting prices, service levels, firms' profits, and consumers' surplus.

Keywords: competition; game theory; congestion; contracting; pricing. (search for similar items in EconPapers)
JEL-codes: D43 L13 L96 M21 (search for similar items in EconPapers)
Pages: 32 pages
Date: 2007-09, Revised 2007-09
New Economics Papers: this item is included in nep-bec, nep-com, nep-ind and nep-mic
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://www.netinst.org/Johari-Weintraub_07-21.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:net:wpaper:0721

Access Statistics for this paper

More papers in Working Papers from NET Institute
Bibliographic data for series maintained by Nicholas Economides ().