Inequity Aversion and Fair Selling

Abstract

This research investigates optimal selling strategies and equilibrium welfare implications in markets with buyer inequity aversion. When buyers care about their surplus relative to seller profits but are uncertain about seller costs, buyers’ fairness perceptions and, thus, their willingness to pay may be malleable and susceptible to seller influence. If a seller's optimal behavior (e.g., pricing) is not completely unvarying in variable costs, buyers can rationally make inferences about seller costs from observed seller behavior. Consequently, buyers’ fairness perceptions and their willingness to pay can influence, and be influenced by, optimal selling strategies. The study characterizes a fair selling equilibrium in which optimal seller behavior and buyer perceived fairness are interactively derived. The author shows that seller ex ante profit may increase as more buyers become inequity averse. In addition, buyer ex ante surplus can be nonmonotonically influenced by an increase in the number of fair-minded buyers or in the degree of inequity aversion. These counterintuitive results pinpoint the importance of investigating the strategic interaction between buyer fairness perceptions and selling strategies. Finally, the basic model is extended to examine how the fair selling equilibrium may be influenced by cost disclosure, buyer dynamic learning, and seller competition.