Tuesday, January 25, 2022

Optimal Price Targeting

Optimal Price Targeting



Adam N. Smith

University College London - UCL School of Management

Stephan Seiler

Imperial College Business School; Centre for Economic Policy Research

Ishant Aggarwal

Lloyds Banking Group



We examine the profitability of personalized pricing policies that are derived using different specifications of demand in a typical retail setting with consumer-level panel data. We generate pricing policies from a variety of models, including Bayesian hierarchical choice models, regularized regressions, and classification trees using different sets of data inputs. To compare pricing policies, we employ an inverse probability weighted estimator of profits that explicitly takes into account non-random price variation and the panel nature of the data. We find that the performance of machine learning models is highly varied, ranging from a 21% loss to a 17% gain relative to a blanket couponing strategy, and a standard Bayesian hierarchical logit model achieves a 17.5% gain. Across all models purchase histories lead to large improvements in profits, but demographic information only has a small impact. We show that out-of-sample hit probabilities, a standard measure of model performance, are uncorrelated with our profit estimator and provide poor guidance towards model selection.


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