Optimal strategies for general price–quality decision models of new products with learning production costs

The question of product quality permeates every level of business and is becoming crucial for the survival of modern manufacturing firms in automotive and high-tech industries. In this paper, we deal with the optimal price and quality policies for the introduction of a new product. On the supply side, the firm wants to determine the unit price and quality level over time given that unit cost declines along a learning curve, and increases if quality is improved. On the demand side, dynamic demand is related to price and quality, as well as to cumulative sales (which represent diffusion and saturation effects). We will model this problem in a general framework that includes several previous results as special cases. By applying the maximum principle, we will derive the optimal price and quality policies and discover the interactions between these two major strategic marketing instruments, and the diffusion process. Several fundamental theoretical results will be established for the model. Under certain specified conditions higher prices do imply higher quality, and under other conditions the optimal price declines over time while the product quality improves. To illustrate these results, the theoretical results are applied to two specific cases: the first one is a simple nonseparable demand growth function in price and quality, the other is a separable demand function of price and quality.