Quantity-Discount Dependent Consumer Preferences and Competitive Non-Linear Pricing

Abstract:     
Producers of consumer packaged-goods often offer several package sizes of the same product, and charge a lower unit price for a larger size. In this paper, we investigate the quantity-discount effect, or the phenomenon that consumers derive transaction utility from the unit price difference between a small and a large package sizes of the same product. We propose a modeling framework composed of a demand-side model and a supply-side model. On the demand side, we develop a choice model to account for such quantity-discount effects while controlling for structural heterogeneity (i.e. consumers may perceive quantity discounts as gains or losses) and preference heterogeneity (i.e. consumers may have different preferences on brand, size, price, etc.). On the supply side, we model profit-maximizing decisions of both manufacturers and retailers. We infer channel members’ interaction relationships and their pricing strategies by estimating and comparing a menu of supply-side specifications. We apply the proposed model to a scanner panel data on consumer light beer purchases. Our empirical results suggest that quantity-discount induced gains/losses have significant impact on consumer buying behavior. We also find a substantial amount of structural heterogeneity, that is, some consumers perceive quantity discounts as gains in making choice decisions, whereas others perceive quantity discounts as losses. On the other hand, the supply-side analysis suggests that manufacturers in our empirical application do not consider quantity-discount effects when setting prices. Through a series of policy experiments, we show that by accounting for quantity-discount dependent consumer preferences, manufacturers can design more effective non-pricing schemes and obtain greater profits.

Keywords: Quantity-Discount Effects, Perceived Gains and Losses, Non-Linear Pricing, Transaction Utility

JEL Classifications: D4, D12, M31

Working Paper Series