Academic journal article Journal of Economic Development

Bundling Competition between Multi-Product and Single-Product Firms

Academic journal article Journal of Economic Development

Bundling Competition between Multi-Product and Single-Product Firms

Article excerpt

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Most price theories assume that a single price is placed on each product. The market for each product arrives at the equilibrium where the unique price equalizes the demand and the supply. Regarding how sensitive the demand for a product is, we take into account other goods such as complements or substitutes. Despite the existence of complementary or substitutable goods, the assumption of one-for-one relationship between product and price had been rarely challenged.

In a real world, we often observe price discounts for multi-product purchases. If you buy more products of the same kind, you might get more discounts for an additional unit. Or if you buy several unrelated goods from the same vendor which supplies various types of products, you might be offered a discount on the bundle. In other words, the price of a bundle is placed on top of the stand-alone prices. We can theoretically devise (2n -1) prices for all possible combinations with n single products. For example, with two products, there are three prices: two stand-alone prices and one bundle price. As the marketing strategies become sophisticated, multiple intra -or inter- product purchases tend to be priced differently from the simple sum of component prices. Beyond the traditional strategy of component pricing, the bundle discount is utilized to entice customers into buying multiple products from the same vendor.

Economics literature had paid scant attention to bundling strategy, a kind of nonlinear pricing, until Stigler (1963) studied the block booking in the US motion picture industry. It is suggested that a monopolist is willing to offer a bundle if consumer valuation on the products are heterogeneous. Following Stigler (1963), early literature of bundling mainly centers on the monopoly theory. Adams and Yellen (1976) illustrate prominent examples explaining why pure or mixed bundling benefits the monopolist more than component pricing. Negative correlation of consumer valuation on product space is a key factor that invites a bundling. McAfee, McMillan, and Whinston (1989) extend Adams and Yellen (1976) in continuous distribution of valuations. They derive a condition in which mixed bundling dominates other pricing strategies. Armstrong (1996) and Rochet and Choné (1998) study the bundling strategy in broader perspective of multidimensional nonlinear pricing. In the monopolist approach, bundling is an effective tool that sorts consumers into different groups for price discrimination. Offering a discounted bundle, the firm is able to distinguish the customers who prefer all the products from those who value only specific subset of the products. Thus a monopolistic multi-product firm would utilize the bundle offers to obtain the information of consumer preference.

In practice, a multi-product firm usually competes with other suppliers. The competitors might contend in each product market, or they might contend employing a similar bundle offering. Compared to the monopoly bundling literature, there are few theoretical papers pertaining to competitive bundling. Spulber (1979) shows that there exists a unique non-cooperative equilibrium of price-discriminating firms. Yet nonlinear pricing with multi-product feature was not considered earlier than Armstrong and Vickers (2001), and Rochet and Stole (2002) investigated the non-linear pricing strategy of intra-product bundle under competition. Especially, Yin (2004) focuses on two-part tariffcompetition.

Armstrong and Vickers (2009) build a pioneering "two-stop shopping" model for a duopoly bundling. They assume there are two symmetric firms supplying two products each. Consumers who buy both products from the same firm pay only the bundle price. Others who buy the products, from different sellers so called "mix-and-match," bear an additional "shopping cost." One of the main results is that two multi-product firms would employ the mixed bundling strategy in equilibrium. …

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