On the Relationship between Price and Capacity Decisions in Inventory Systems with Stochastic Demand

Abstract

We address the simultaneous determination of pricing and capacity investment strategies in a multi-period setting under demand uncertainty. In our model a monopolistic flrm makes three decisions: capacity investment (or disinvestment), production (inventory), and price, all of which can be specifled dynamically as a function of the state of the system. We analyze the optimal joint strategy and through that investigate the relationships between the main strategic decision variables: price and capacity. We consider models that allow for either bi-directional price changes or models with markdowns only, and in the latter case we prove that capacity and price are strategic substitutes. Short Title: Relationship between pricing and capacity decisions