Essays on pricing contracts

This dissertation consists of two essays on pricing contracts in marketing. Both essays incorporate important behavioral elements into the firms\u27 pricing strategies. This not only yields more empirically-grounded models, but also explains why observed pricing behavior is often different from the predictions of standard economic theories. The first essay studies the price effects of lowest-price guarantees (LPGs) and draws on experimental results from consumer psychology that show that customers believe that firms which adopt LPGs have the lowest price. Consequently, customers are more inclined to purchase before search and develop or lose goodwill towards the firms depending on the veracity of the lowest-price claims. I incorporate these effects into a model of duopolistic price competition. The equilibrium results show that the change in search pattern raises prices while goodwill intensifies price competition. Consequently, equilibrium prices with LPGs may be lower even if total search decreases. This result is significant because standard theory predicts prices to be higher if firms adopt LPGs. The second essay examines the theoretical prediction that both the two-block and three-block tariffs can eliminate the double-marginalization problem in independent channels. Put differently, the number of blocks in multi-block tariffs does not matter in restoring channel efficiency. This essay constructs a test of this prediction using controlled laboratory experiments. The results indicate that contrary to the theoretical prediction, the number of blocks in multi-block tariffs does matter. Specifically, both channel efficiency and the profits of the upstream firm are higher in the three-block tariff. I develop a model that explains these results by assuming that the downstream firm in the channel cares about counterfactual profits in addition to its actual profits. These counterfactual profits are generated by the differences between the marginal wholesale prices in adjacent blocks of the multi-block tariff. Using this model, I estimate the downstream firm\u27s weight on the counterfactual profits using maximum likelihood methods. The results indicate that every counterfactual dollar is equivalent to thirty actual cents