Three Principles of Competitive Nonlinear Pricing

Abstract

We make three contributions to the theory of contracting under asymmetric information. First, we establish a competitive analog to the revelation principle which we call the implementation principle. This principle provides a complete characterization of all incentive compatible, indirect contracting mechanisms in terms of contract catalogs (or menus), and allows us to conclude that in competitive contracting situations, firms in choosing their contracting strategies can restrict attention, without loss of generality, to contract catalogs. Second, we establish a competitive taxation principle. This principle, a refinement of the implementation principle, provides a complete characterization of all implementable nonlinear pricing schedules in terms of product-price catalogs and allows us to reduce any game played over nonlinear pricing schedules to a strategically equivalent game played over product-price catalogs. Third, applying the notion of payoff security (Reny (1999)) and the competitive taxation principle, we demonstrate the existence of a Nash equilibrium for the mixed extension of the nonlinear pricing game. Moreover, we identify a large class of competitive nonlinear pricing games whose mixed extensions satisfy payoff security.