Pricing Strategies When and Why to Offer Shallow or Deep Discounts?

Empirical examination of the pricing policies of brands in several categories reveals that the pricing distribution is multi-modal with firms offering shallow and deep discounts with varying frequencies. Another interesting feature of these pricing distributions is that the modes are in the interior of the support. However, extant theory on price promotions predicts that the equilibrium pricing density will be bi-modal and the modes will be at the ends of the support of the distribution. In this study, we develop a dynamic game-theoretic model which allows for inter-temporal shifts in demand that may result from some consumers’ stockpiling at promotional prices. We examine how such behavior affects firms’ pricing strategy in a setting where firms and consumers interact repeatedly over an infinite horizon. The pricing distributions predicted by our theory are remarkably consistent with the pricing patterns observed in practice. The model allows us to generate many new and interesting insights on the optimal promotional strategies of firms and its interplay with the clientele mix, market structure and other market factors. Interestingly, we find that the stockpiling threshold is decreasing in the consumer’s willingness to stockpile. The model also highlights whether or not the stockpiling occurs in equilibrium depends on the market structure, mix of price sensitive, price insensitive and opportunistic consumers and discount rate.