Offense on Defense: Competitive Data Protection Investment with Behavior-Based Pricing

50 Pages Posted: 14 Dec 2022 Last revised: 13 May 2024

See all articles by Weining Bao

Weining Bao

University of Connecticut

Yuxin Chen

New York University (NYU) - New York University (NYU), Shanghai

Ping Xiao

University of Melbourne - Melbourne Business School

Date Written: May 12, 2024

Abstract

This paper explores a firm’s incentive to invest in data protection to mitigate the risk of compromising consumer privacy, in the context of duopoly competition with behavior-based pricing. A consumer’s personal information (privacy), once collected and stored by a firm, remains within the firm’s control, making it susceptible to potential data breaches even after the consumer has stopped purchasing from it. Consequently, a firm’s privacy protection influences the purchasing decisions of prospective consumers rather than existing ones. This makes privacy protection a unique product quality that is conditionally sunk, distinguishing it from standard product quality or switching costs. We find that privacy protection may not shield firms’ existing consumers from poaching but may help them acquire new consumers (i.e., switchers). We discovered an inverted U-shaped relationship between a firm’s privacy protection and consumer disutility from privacy loss if the leak risk is high. Our welfare analysis shows that mitigating consumer disutility from privacy loss could harm consumers if the leak risk is not high. An important policy implication is that privacy measures aimed at consumer protection may either be strengthened or weakened by firms’ strategic decisions regarding privacy protection. Thus, finding the optimal spot for such measures is crucial.

Keywords: Privacy, consumer protection, competitive strategy, product design

JEL Classification: D18, L13, L15

Suggested Citation

Bao, Weining and Chen, Yuxin and Xiao, Ping, Offense on Defense: Competitive Data Protection Investment with Behavior-Based Pricing (May 12, 2024). Available at SSRN: https://ssrn.com/abstract=4299544 or http://dx.doi.org/10.2139/ssrn.4299544

Weining Bao (Contact Author)

University of Connecticut ( email )

Storrs, CT 06269-1063
United States

Yuxin Chen

New York University (NYU) - New York University (NYU), Shanghai ( email )

1555 Century Ave
Shanghai, Shanghai 200122
China

Ping Xiao

University of Melbourne - Melbourne Business School ( email )

200 Leicester Street
Carlton, Victoria 3053 3186
Australia

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