Supply chain coordination with a wholesale price contract for behavioral decision-makers

Traditionally supply chain coordination is defined for expected profit maximizing decision-makers, including the coordinator. In this setting, a wholesale price contract cannot coordinate a supplier-buyer relationship because of double marginalization. Nevertheless, the wholesale price contract is frequently applied in practice because it is simple and easy to implement. A possible explanation could be that the decision-makers are influenced by behavioral factors, such as individual biases and social preferences. We propose the supply chain’s objective maximization (SCOM) approach to coordinate a supplier-buyer relationship, where not only the buyer (newsvendor) but also the coordinator, typically the supplier, may be behavioral decision-makers. Applying the SCOM criterion, we present a general condition for the existence of a coordinating wholesale price based on a monotonicity assumption that holds for many behavioral factors. We apply the result to extensions of two types of the individual bias overconfidence (overprecision and overestimation): mean-preservation and variance-preservation of stochastic demand, the latter is a special case of first-order stochastic dominance. For these biases we derive intuitive closed-form solutions and present conditions for the existence of a coordinating wholesale price. The less aligned the biases of the coordinator and the buyer are, the greater the supplier’s share of expected supply chain profit under the coordinating wholesale price. Concerning social preferences we demonstrate that the supply chain cannot be coordinated if altruism is the only behavioral factor. Coordination can be achieved if, additionally, the buyer and/or the supplier are equipped with individual biases. • For behavioral decision-makers we show when a coordinating wholesale price exists. • For specific behavioral factors like overconfidence we derive closed form solutions. • The supply chain cannot be coordinated if altruism is the only behavioral factor. • Coordination can be achieved if decision-makers have in addition an individual bias.