T his paper considers a firm's price and inventory policy when it faces uncertain demand that depends on both price and inventory level. The authors extend the classic newsvendor model by assuming that expected utility maximizing consumers choose between visiting the firm and consuming an exogenous outside option. The outside option represents the utility the consumer forgoes when she chooses to visit the firm before knowing whether or not the product will be available. The authors investigate both the case in which the firm's price is exogenous and the case in which price is chosen optimally. The paper makes two contributions. First, the authors show that the firm holds more inventories, provides a higher fill rate, attracts more customers, and earns higher profits when it internalizes the effect of its inventory on demand. Second, the authors show that in the endogenous price case the firm's two-dimensional decision problem can be reduced to two, sequential, single-variable optimizations. As a result, the endogenous-price case is as easy to solve as the exogenousprice case.
This paper presents a strategic model of competition in both price and availability when firms can publicly commit to prices but not inventories (or capacities). Demand is uncertain and firms may stock out in equilibrium. Consumers choose where to shop given the price and expected availability at each firm (the probability of being served). In a one period model, I show that firms can use higher prices to "signal" higher availability (regardless of whether price or inventory is chosen first). This generates a floor on equilibrium prices and industry profits that exists regardless of the number of firms in the industry. In a repeated game, firms that maintain reputations for higher service rates may earn even higher profits. The model sheds light on the relationship between price, availability, and reputations in the video rental industry. † Associate Professor,
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