Nonlinear pricing in an oligopoly market: the case of specialty coffee


  • I thank Simon Anderson, Steven Stern and Maxim Engers for many helpful comments and suggestions. Editor Rob Porter and anonymous referees also offered valuable advice, as did Andrew Cohen, Peter Davis, Gautam Gowrisankaran, Bart Hamilton, Phillip Leslie, Steven Levitt and Raphael Thomadsen. Data and information on the University of Virginia (UVa) coffee market were generously provided by Diane McClellan and Susan Presto at ARAMARK/Greenberry's, John Salidis of Espresso Corner, Joseph and William Trager of Higher Grounds and Robert Harris at Starbucks. Jeffrey Tilman at UVa's Facilities Management Department and Michael Furlough of the UVa Geospatial and Statistical Data Center provided information and analysis that were crucial in constructing consumer population data.


Firms that use nonlinear pricing may distort product characteristics away from their efficient levels. This paper offers the first empirical study of this issue. Using data from a specialty coffee market, I estimate a structural utility model to compute consumers' benefits from changing products' sizes. I then compare the estimated benefits to cost data. Design distortions are relatively large for products not targeted to the highest-demand consumers. Distortions decrease toward zero with drink size for products with the largest profit margins. These results support some of the central predictions from nonlinear pricing theory, including “no distortion at the top.”