Counteracting Strategic Purchase Deferrals: The Impact of Online Retailers’ Return Policy Decisions

Abstract

Online shoppers value lenient return policies as they are unable to assess whether products match their expectations. We study how consumers’ discount-seeking purchase deferrals affect online retailers’ return policy choices. Lenient returns may induce higher full-price sales by limiting consumer regret, while signaling clearance unavailability risk. Contrasting earlier research that concluded a monopolist must set the refund at the clearance price when strategic consumers were overlooked, we find that an optimal refund bounded by the clearance price can mitigate purchase deferrals only when a monopolist salvages at mild discounts. To explore conditions under which a monopolist permits “full-refund returns,” we consider three scenarios: we permit clearing inventory without a loss; we assume lenient returns stimulate aggregate demand; we consider consumers’ transaction costs. We also derive a unique rational expectations equilibrium for competing retailers, wherein each retailer’s equilibrium refund is nondecreasing in its clearance price. Furthermore, retailers with clearance prices below a threshold should not allow returns, and those who do, higher clearance revenues imply higher full prices, higher quantities, and higher profits. We conclude that a credible clearance partner salvaging at higher prices than those at competing clearance mediums helps retailers gain competitive advantage when selling to strategic consumers.