Abstract：Partitioned pricing is a common pricing practice that divides the price of a product into a base price and one or more mandatory surcharges. From the perspective of standard economic theory,this practice is puzzling because rational buyers care about the full price they pay for a product rather than whether and how the price is partitioned into various components. This paperdevelops a theory of partitioned pricing using a duopoly model where the owner of each firm determines the level of surcharge but delegates the setting of base price to a manager. It shows that in equilibrium both firms choose partitioned pricing over conventional all-inclusive pricing.Moreover, partitioned pricing leads to higher full prices and larger profits than all-inclusive pricing. Most surprisingly, collusion on surcharge without any coordination on base price is as profitable as collusion on all-inclusive price.

Key Words: partitioned pricing, surcharges, duopoly, strategic delegation, collusion