Discrete/Continuous Models of Consumer Demand with Binding Non-Negativity Constraints

Abstract

Consumers in this model are assumed to maximize utility with respect to two goods, one of which is inessential and available in several alternative forms. Decisions rules for the consumers are derived for two cases: choosing one alternative or forgoing the consumption of the inessential good. Choice probabilities, the demand equations and the zero-consumption probability are derived and reflect the interrelatedness of the discrete/continuous choices and the binding nonnegativity constraint. We show that traditional discrete/continuous choice models yield estimates of demand which arc biased and choice probabilities, which in some circumstances, arc not biased. The model is then applied to coffee data.