A Discrete Choice Model of Yield Management

Customer choice behavior, such as \buy-up" and \buy-down", is an important phenomenon in a wide range of industries. Yet there are few models or methodologies available to exploit this phenomenon within yield management systems. We make some progress on ̄lling this void. Speci ̄cally, we develop a model of yield management in which the buyers' behavior is modeled explicitly using a multi-nomial logit model of demand. The control problem is to decide which subset of fare classes to o®er at each point in time. The set of open fare classes then a®ects the purchase probabilities for each class. We formulate a dynamic program to determine the optimal control policy and show that it reduces to a dynamic nested allocation policy. Thus, the optimal choice-based policy can easily be implemented in reservation systems that use nested allocation controls. We also develop an estimation procedure for our model based on the expectation-maximization (EM) method that jointly estimates arrival rates and choice model parameters when no-purchase outcomes are unobservable. Numerical results show that this combined optimization-estimation approach may signī cantly improve revenue performance relative to traditional leg-based models that do not account for choice behavior.