Competition, Incomplete Discrimination and Versioning

Abstract

Two producers offer differentiated goods to a representative consumer. The buyer has distinct marginal valuations for the quality of the products. Each producer knows perfectly the consumer's taste for its own product, but remains uninformed about its taste for the rival's product. When each product cannot be purchased in isolation of the other one, a phenomenon of endogenous preferences arises since a firm's offer to the consumer depends on the information unknown by the rival firm. Multiple equilibria emerge and the consumer's rent increases with their valuation for one product and decreases with the valuation for the other product. This provides some foundations for the phenomenon of versioning, which has been observed in some digital goods markets. By contrast, when each product can be purchased in isolation of the other one, at the unique equilibrium consumers with larger valuations for a product earn higher rents. The analysis is undertaken under two alternative pricing policies: in the partially-discriminatory case, producers make use of the known information only; in the fully-discriminatory case, each producer offers second-degree price discriminates the consumer according to the unknown information. We show that, sometimes, firms prefer partial to full discrimination to soften competition.

Keywords: Price competition, price discrimination, versioning

JEL Classification: D82, L13