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Presented By: Department of Economics

Economic Theory: Ratings-Based Price Discrimination

Alessandro Bonatti, MIT Sloan

Abstract

A long-lived consumer interacts with an infinite sequence of short-lived firms in a stationary Gaussian setting. Firms use the consumer’s rating—an aggregate measure of her purchase history—to learn about the consumer’s type, and thus set prices. The focus is on linear Markov equilibria when ratings discount past purchases exponentially. We find that equilibrium prices are lower in expectation than in a static benchmark due to the strategic effect of privacy concerns. The precision of the information conveyed in equilibrium by a rating is non-monotone in its persistence level. Firms may prefer more persistent ratings than under public histories, whereas high-value consumers may prefer more or less persistent ratings to uninformative ratings. Total surplus is instead maximized by uninformative ratings. Finally, hidden ratings that are not observed by the consumer reduce the sensitivity of demand and increase the firms’ profits. Our analysis thus sheds light on the role that transparency and persistence of consumer data can have on market outcomes.

http://web.mit.edu/gcistern/www/rating.pdf

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