Data Trade and Consumer Privacy

Abstract

This paper studies optimal mechanisms for collecting and trading data. Consumers benefit from revealing information about their tastes to a service provider because this improves the service. However, the information is also valuable to a third party as it may extract more revenue from the consumer in another market called the product market. The paper characterizes the constrained optimal mechanism for the service provider subject to incentive feasibility. It is shown that although the service provider sometimes sells no information or only partial information in order to preserve profits in the service market, selling full information is optimal when the data-sourcing market is highly differentiated. Moreover, a ban on data trade may reduce social welfare because it makes it harder to price discriminate in the product market. Instead, reducing the intermediary's bargaining power can protect privacy without hurting social welfare, which suggests that the regulation of market power is more efficient than the regulation of data sharing.