Screening Contracts, explained.
Screening uses a menu of choices to induce agents with private information to select options that reveal something about their type.
Why it happens
Customers value each quality unit at four or eight. Qualities one and two cost one and four to produce. Each customer maximises value times quality minus price, including a zero-utility outside option; ties favour higher quality.
Screening uses a menu of choices to induce agents with private information to select options that reveal something about their type.
Read the result
The customer chooses from the entire menu, including opting out. A seller cannot assign contracts simply by naming a target audience.
A worked example
Two tiers and two private values
Set quality-one price to four and quality-two price to twelve with the stated production costs.
Inspect each customer’s utility from both tiers and the higher-quality tie rule to see separating choices.
Raise the high price to fourteen and observe both customers selecting the lower tier, reducing total seller profit in this example.
OPTIONAL DEEPER DETAILGo deeper: inside the model
Inside this model
Customers value each quality unit at four or eight. Qualities one and two cost one and four to produce. Each customer maximises value times quality minus price, including a zero-utility outside option; ties favour higher quality.
Where this idea is useful
A practical use
Design a service tier by checking whether high-value customers prefer it over the cheaper option, rather than assuming they self-identify.
A common misconception
“A high-value customer automatically buys the expensive tier.”
The customer compares net utilities across all options. A cheaper tier can provide more surplus even when willingness to pay is high.
What this explanation leaves out
- Only two fixed private types, two qualities and a declared tie rule are included; no complete equilibrium or welfare optimum is claimed.
What role does the outside option play?
A negative-utility purchase is rejected in favour of zero utility, while the declared tie rule handles exact equality transparently.
Would the customer you hope to upsell actually prefer your cheaper option?
Associated thinkers
Associations marked provisional are awaiting source review.
Further reading
Explore the original research or the teaching reference behind this experiment.