Optimal Pricing over Vertically Differentiated Qualities Under Loss Aversion

We study optimal pricing in a vertically differentiated market where a monopoly seller facing loss-averse customers commits in advance to a price for each randomly realized quality state (high or low). We compare revenue-optimal with social-optimal prices under bundled preferences (gains and losses evaluated jointly) and unbundled preferences (evaluated separately). Under bundled preferences, the seller’s revenue-optimal prices are proportional to the qualities and independent of loss aversion, whereas the social planner must account for it: the social optimum lies on the boundary separating the two cases, and the social-optimal prices rise with the loss-aversion parameters, while the effect of the prior belief reverses between them. Under unbundled preferences, the seller’s pricing response is asymmetric: the high-quality price decreases with loss aversion, while the direction of the low-quality price depends on the prior quality distribution. The social planner instead charges a single flat price, rising with loss aversion and falling with the prior belief: the preference type changes the shape of the optimal price schedule, not merely its level. These results offer managerial insights for refined pricing and market-efficiency policies, with the stated conditions delimiting their scope.