The role of data cap in two-part pricing under market competition

Abstract

Internet services are traditionally priced at flat rates; however, many Internet service providers (ISPs) have recently shifted towards two-part tariffs where a data cap is imposed to restrain data demand from heavy users and usage over the data cap is charged based on a per-unit fee. Although two-part tariffs could generally increase the revenue for ISPs, the role of data cap and its optimal pricing structures are not well understood. In this paper, we study the impact of data cap on the optimal two-part pricing schemes for congestion-prone service markets, e.g., broadband or cloud services. In particular, we characterize users' optimal data demand and derive the equilibrium market share of ISPs under market competition. Based on this equilibrium model, we characterize the optimal structure of the two-part tariffs under market competition. Our results reveal that 1) the data cap provides a mechanism for ISPs to transition between flat-rate and pay-as-you-go type of schemes, 2) with growing data demand and network capacity, the optimal two-part structure will move towards usage-based schemes with diminishing data caps, and 3) under intense market competition, the optimal two-part structure will move in an opposite direction towards flat-rate schemes with higher data caps.