An Analysis of Pricing Models in the Electronic Book Market1

In this paper, we develop a game theoretic model to study the pricing of e-books and e-readers under two pricing models: wholesale and agency. We analyze pricing strategies for a publisher and a retailer. We identify the complementary relationship between e-books and e-readers as the main reason for the retailer to set a low e-book price in the wholesale model. Comparing the wholesale and the agency models, we find, in a wide range of market conditions, the price for e-book readers is lower in the agency model, leading to a higher e-book market share. However, a higher e-book price in the agency model lowers e-book consumption. Overall social welfare is lower in the agency model than in the wholesale model. While total consumer surplus is slightly higher in the agency model, largely because of a lower e-reader price, business profit is lower. The publisher, surprisingly, is worse off under the agency model.