The Impact of Consumer Inequity Aversion on Firm's Pricing and Return Policies: An Analytical Model

Abstract

This research investigates a channel involving a company and fairness-concerned consumers facing product valuation uncertainty. The company offers a return option to mitigate this risk. Our analysis focuses on the impact of inequity aversion on consumer decisions and its consequences for the firm's pricing and return strategies. Our study's findings can be encapsulated into two key points. Firstly, consumers who prioritize fairness are less inclined to return mismatched products if they perceive the company gains disproportionately from the return process. This behavior has a negative impact on the firm's performance. To address this, firms adjust refund policies to motivate consumers to return poorly matched products. Secondly, the formulation of an optimal refund policy by the firm involves weighing the trade-off between two divergent consumer perceptions of unfairness. This includes addressing the sense of unfairness consumers experience with products that fail to meet their expectations versus the perception of inequity when products adequately fulfill their requirements. Both forms of inequity aversion critically influence the firm's pricing and return strategies, as well as its profit generation. These trade-offs can result in the firm implementing an exceptionally generous refund policy, potentially exceeding the initial purchase price. Additionally, our study uncovers two supplementary outcomes. Firstly, we challenge the conventional belief that a higher profit is achieved through implementing a refund policy when the joint benefit of both consumers and the firm from reallocating an unsuitable product outweigh the advantages of retaining and using the product. Our analysis reveals scenarios in which firms can achieve enhanced profitability by diverging from this established principle. Secondly, we find that in certain contexts, heightened consumer sensitivity to unfairness can result in increased prices and profits for the firm. These findings offer a distinct viewpoint, suggesting potential benefits for the firm in catering to fairness-conscious consumers. Our research offers essential insights to guide firms in formulating effective product return policies while dealing with fairness-concerned consumers.