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Optimal Pricing with Recommender Systems

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Abstract

We study optimal pricing in the presence of recommender systems. A recommender system affects the market in two ways: (i) it creates value by reducing product uncertainty for the customers and hence (ii) its recommendations can be offered as add-ons which generate informational externalities. The quality of the recommendation add-on is endogenously determined by sales. We investigate the impact of these factors on the optimal pricing by a seller with a recommender system against a competitive fringe without such a system. If the recommender system is sufficiently effective in reducing uncertainty, then the seller prices otherwise symmetric products differently to have some products experienced more aggressively. Moreover, the seller segments the market so that customers with more inflexible tastes pay higher prices to get better recommendations.

Suggested Citation

  • Dirk Bergemann & Deran Ozmen, 2006. "Optimal Pricing with Recommender Systems," Cowles Foundation Discussion Papers 1563, Cowles Foundation for Research in Economics, Yale University.
  • Handle: RePEc:cwl:cwldpp:1563
    Note: CFP 1177
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    File URL: http://cowles.yale.edu/sites/default/files/files/pub/d15/d1563.pdf
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    1. Paul Resnick & Christopher Avery & Richard Zeckhauser, 1999. "The Market for Evaluations," American Economic Review, American Economic Association, vol. 89(3), pages 564-584, June.
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    Keywords

    Recommender system; Collaborative filtering; Add-ons; Pricing; Information externality;

    JEL classification:

    • D42 - Microeconomics - - Market Structure, Pricing, and Design - - - Monopoly
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • D85 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Network Formation

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