Wholesale Price Discrimination and Contract Unobservability

Abstract

This study examines how wholesale price discrimination (WD) by a supplier affects different parties in a supply chain involving a common supplier distributing homogeneous products through two competing retailers with different costs under wholesale price contracts. Especially, we allow for contract unobservability, where the contract terms between the supplier and each retailer are secret to the rival retailer. Intuitively, given the downstream asymmetry, WD should be more advantageous than the uniform wholesale price (UW) scheme for the supplier. This is true under observable contracts, as we show that WD benefits the supplier and less efficient retailer but hurts the more efficient retailer, supply chain, and consumers. Under unobservability, however, we find that the supplier may be better off by committing to UW. The intuition is that contract unobservability induces the supplier to set lower discretionary wholesale prices, which can outweigh the benefits of pricing flexibility. Consequently, a lack of commitment to UW can benefit both retailers, improve supply chain efficiency, and increase consumer surplus. Our findings suggest that policymakers should be cautious about imposing restrictions on WD. We also consider three extensions for robustness and offer new insights.