Optimal Pricing of Digital Experience Goods Under Piracy

Piracy of digital experience goods such as music recordings has received increased attention in the literature. Much of this research has focused on pricing policies, protection against piracy, and governmental policies in the software industry. In this research, we focus on pricing policies of producers of digital experience goods. We consider a heterogeneous consumer market with different segments, each having a different affinity to piracy. We analyze the effect of different producer pricing policies on the revenue of the creator of the product, who may be different than the producer. Our results indicate that the explicit incorporation of these different consumer segments will cause the producer to charge lower prices and, therefore, lead to higher legal product diffusion. We show that the royalty system does not solve the double marginalization problem and is suboptimal from a supply-chain perspective. Also, the creator of the goods prefers a lower price than the producer's optimal price, and this tendency increases with the creator's per unit royalty.