Optimal Dynamic Pricing of Green Goods under Discounted Network Effects
This paper deals with optimal dynamic pricing for a dominant firm selling a green good, whose consumption generates network/conformity effects. The green good is an environmentally friendly variant of a brown good, which is supplied in a competitive set‐up. We explicitly model the accumulation process for the green good's network, with consumers discounting weight differently the choices of different cohorts of consumers, as a reflection of the fact that current consumers interact more with similarly aged cohorts. With linear per period demand, we use dynamic programming to get a unique closed‐form solution for the infinite‐horizon problem faced by the green good producer. The optimal pricing strategy and the evolution and steady
state network size for the green good crucially depend on the intensity of network effects. For weak peer effects, the steady state network size is finite, whereas strong peer effects lead to “universal adoption”. We compare the private optimal solution to the first‐ best outcome patronized by a benevolent social planner choosing to maximize overall welfare in order to account for both network externalities and environmental externalities. We find that the social planner would favor universal adoption more frequently (i.e. for a wider domain of network effects) than the dominant firm, provided that the environmental externality generated by the green good is sufficiently high to compensate the greater marginal production cost of the green good.
Joana Resende University of Porto, Portugal