Social Learning Dynamics and Monopoly Pricing

1. Monopoly Learning in the Presence of Social Learning by Bar Ifrach, Costis Maglaras and Marco Scarsini Discussant Ganesh Iyer (University of California, Berkeley) Net Institute Conference June 7, 2013

2. Contributions • Main contribution of the paper is in explaining social learning dynamics and its interaction with monopoly pricing. • Micro-level characterization of online review reports and how they affect learning. • Important problem given the evolution of social media.

3. Basic Structure • Monopoly pricing when quality is uncertain, but consumers can learn from the reports of others who have already purchased. Consumers • Consumers have heterogeneous quality preferences. • Arrive through an exogenous Poisson process and make a decision on whether or not to buy (no waiting or repeat purchase incentives). • Consumers’ reports are conditional on purchase and are binary (like/dislike) based upon whether the experienced utility is positive or negative. • Self-selection bias: Only consumers with high quality preferences will buy and report like/dislike. Social Learning • Consumers update their priors on quality after observing the # of likes, dislikes and no-purchases by their predecessors. • Consumers assume that all their predecessors used the same quality estimate • Quality estimate evolves as a weighted function of the observed likes and dislikes. • Allow for correction function y (i)…which can be thought of as exogenous experimentation.

4. Main Points • Speed of Learning • Is fast if consumers initially overestimate true quality (learning from above) because of lack of the self selection bias. • Is slow if consumers underestimate true quality (learning from below) due to the self selection bias. • Monopolist’s price is between the no information and the full information case: • If learning is slow and discounting of future revenues high  price closer to the case with prior quality • If learning is fast  price closer to the case of full information about quality. • With two prices, monopolist may set a low initial price to promote learning especially if consumers tend to underestimate the true quality.

5. Comments/Related Research Issues • Structure to allow for full dynamic pricing. • Even with two prices…can we think about the equilibrium where consumers are strategic and forward looking (about future firm actions) in making their decisions. • Problem in the tradition of dynamic pricing with bayesian social learning (Ottaviani 1999, Ottaviani et. al 2008). • Firms have private information about quality and therefore signaling incentives. • Do firms have the incentive to use an increasing price path to signal higher quality? • Alternatively, consider two-sided uncertainty for firms and consumers. • Uncertainty is about fit of the product. • Takes away signaling concerns. • But now social learning reports are important for consumers as well as for the dynamic pricing of the firms. • Problem in the tradition of the experimentation in markets literature (Bergemann and Valimaki (1997, 2000).

6. Comments/Related Research Issues • Alternative to the binary (like/dislike) reports. • Reporting of experienced utilities (Ellison and Fudenberg 1993). • Equivalent to the probability of like/dislike dependent upon the magnitude of experienced utility/disutility. • Can help characterize the “multi-star” rating systems of online reviews.