Strategic Pricing With Reference Effects

The reference price effect refers to the demand deviations caused by consumers’ perceived losses or gains when the current market price of a product differs from the cognitive benchmark (known as the reference price) formed by customers on the basis of past prices. Due to the increasingly important influence of consumer behavior on sellers’marketing strategies, the impact of such reference price effect is attracting growing attention in the marketing and management literature. This thesis aims to identify the optimal pricing strategy for firms in the presence of reference-price effects.First, while the existence of reference-price effects is evident for a variety of consumable and durable products, such effects have been overlooked in the durable goods pricing literature. We incorporate reference-price effects into a dynamic pricing model, wherein the saturation effect associated with selling a durable good is present. We derive the optimal pricing strategy for durable goods in the presence of reference-price effects. Our results indicate that, different from consumable goods, to achieve an optimal pricing strategy for durable goods, it is impossible to adopt a price-penetration strategy without price skimming. In general, it is optimal to adopt a price-skimming strategy for durable products after a period of price increases even when consumers’ initial reference price is low. Furthermore, a parametric sensitivity analysis is conducted to extract more insights on how reference price effect related parameters influence the optimal pricing strategy and net discounted profits. In addition, the basic model is extended to examine the influences of the word-of-mouth (WOM) effect and repeat purchase on pricing strategies.Second, the impact of reference-price effects on the dynamic pricing policy of a monopolist has been widely studied in the literature. However, despite the importance of the topic due to the growing transparency of price information in the Internet era, its relevance in the context of a distribution channel has never been explored. We consider a supply chain consisting of a manufacturer and a retailer in a bilateral monopoly setting. The two channel members independently choose their pricing strategies to optimize their own benefits in the presence of consumer reference-price effects. To provide pertinent insights into the subject, we derive the equilibrium prices and analyze the resulting profit sensitivity with respect to various factors that crucially shape the reference effects. Surprisingly, we find that most of the time, channel efficiency is improved in the presence of reference-price effects.