Privacy on the Internet: An Economic Analysis*

This paper seeks to address the sharp increase in public debate about privacy issues, particularly on the issues of Internet privacy and the value of personal information. The research questions we are addressing here are – How should an Internet Service Provider (ISP) price its service given that the consumers vary in their valuation for privacy and also vary in terms of the value of their personal information to a third party? Should the ISP have a blanket policy of never collecting, or a policy of always collecting and revealing information? We calculate the separating and pooling strategies for the ISP under asymmetric information and compare them with the full information benchmarks. We find that in some cases the ISP may be no worse off than in the full information case while in other cases it may have to restrict the set of contracts so that they are incentive compatible and individually rational.