Reference Dependence in Queue Design and Pricing Strategies

Abstract

This research investigates the effect of reference dependence on waiting times in service systems which formerly used a first-in-first-out (FIFO) service but have introduced a priority line with a fee. Our model combines reference-dependent gain-loss utility with standard customer utility, and we posit that customers are pleased with shorter-than-expected waiting times, whereas longer-than-expected times lead to dissatisfaction and an increased likelihood of balking. The study explores two scenarios: a captive customer system (CCS) and a noncaptive customer system (NCCS), with a focus on optimal pricing and segmentation strategies for revenue and social welfare maximization. The results reveal that, in a CCS, the service provider should implement observed and unobserved customer segmentation to optimize revenue and social welfare, respectively. In an NCCS, the impact of customer segmentation on revenue maximization depends on the value of regular customers, their loss reference-dependent preferences, and the system’s offered load. Alternatively, if the service provider seeks to maximize social welfare, the provider’s use of customer segmentation relies solely on the system’s offered load and customers’ reference-dependent preferences. Our findings also indicate that reference dependence can have varying impacts under different conditions, suggesting the effectiveness of tailored service and pricing strategies. Notably, a CCS generates more revenue than does an NCCS because of its captive nature, and, surprisingly, increasing the service rate can decrease revenue while improving social welfare. These insights have significant implications for service management strategies for a CCS and an NCCS. Funding: J. Liu was supported by the National Natural Science Foundation of China (General Program) [Grant 72071112]. J. Chen was supported by the National Natural Science Foundation of China (Major Program) [Grant 71490723]. Supplemental Material: The online appendix is available at https://doi.org/10.1287/serv.2023.0033 .