Economics
Price Discrimination
Price discrimination refers to the practice of charging different prices to different customers for the same product or service. This strategy is often used to maximize profits by capturing consumer surplus and increasing overall revenue. Price discrimination can take various forms, such as first-degree (perfect) price discrimination, second-degree price discrimination, and third-degree price discrimination.
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eBook - ePubManagerial Economics
Mastering Managerial Economics, Navigating Business With Informed Decisions
- Fouad Sabry(Author)
- 2023(Publication Date)
- One Billion Knowledgeable(Publisher)
Chapter 9: Price Discrimination
Price Discrimination is a microeconomic pricing strategy in which the same provider sells identical or largely identical goods or services at different prices to different market segments. This is also known as one-to-one marketing. "Personalized pricing" (or first-degree price differentiation) refers to selling to each customer at a different price. "Product iteration""Group pricing" (or third-degree price differentiation) involves segmenting the market and charging each segment a different price (but the same price to each member of that segment). as well as senior discounts.Price Discrimination can only exist in monopoly and oligopoly markets in a theoretical market with perfect information, perfect substitutes, and no transaction costs or prohibition on secondary exchange (or reselling) to prevent arbitrage. Thus, Price Discrimination is prevalent in services where resale is not possible; student discounts at museums are an example. Theoretically, students may receive lower prices than the rest of the population for a particular product or service due to their status as students, but they will not later become resellers because they are required to present their student identification card when making a purchase. Intellectual property, which is enforced by law and technology, is an additional example of Price Discrimination. In the DVD market, laws mandate that DVD players be designed and manufactured with hardware or software that prevents cheap duplication or playback of content legally purchased elsewhere in the world at a lower price. In the United States, the Digital Millennium Copyright Act prohibits circumvention of such devices in order to protect the enhanced monopoly profits that copyright holders can obtain through Price Discrimination against higher-priced market segments.Customers' willingness to pay is differentiated by Price Discrimination in order to eliminate as much consumer surplus as possible. Using its market power, a business could determine the customers' willingness to pay by analyzing the elasticity of customer demand.
eBook - ePubHealth Economics
Demystifying Healthcare Economics, Your Guide to Informed Decisions and a Healthier Future
- Fouad Sabry(Author)
- 2023(Publication Date)
- One Billion Knowledgeable(Publisher)
Chapter 6: Price Discrimination
Price Discrimination is a microeconomic pricing strategy in which the same provider sells identical or largely identical goods or services at different prices to different market segments. This is also known as one-to-one marketing. "Personalized pricing" (or first-degree price differentiation) refers to selling to each customer at a different price. "Product iteration""Group pricing" (or third-degree price differentiation) involves segmenting the market and charging each segment a different price (but the same price to each member of that segment). as well as senior discounts.Price Discrimination can only exist in monopoly and oligopoly markets in a theoretical market with perfect information, perfect substitutes, and no transaction costs or prohibition on secondary exchange (or reselling) to prevent arbitrage. Thus, Price Discrimination is prevalent in services where resale is not possible; student discounts at museums are an example. Theoretically, students may receive lower prices than the rest of the population for a particular product or service due to their status as students, but they will not later become resellers because they are required to present their student identification card when making a purchase. Intellectual property, which is enforced by law and technology, is an additional example of Price Discrimination. In the DVD market, laws mandate that DVD players be designed and manufactured with hardware or software that prevents cheap duplication or playback of content legally purchased elsewhere in the world at a lower price. In the United States, the Digital Millennium Copyright Act prohibits circumvention of such devices in order to protect the enhanced monopoly profits that copyright holders can obtain through Price Discrimination against higher-priced market segments.Customers' willingness to pay is differentiated by Price Discrimination in order to eliminate as much consumer surplus as possible. Using its market power, a business could determine the customers' willingness to pay by analyzing the elasticity of customer demand.
No longer available |Learn more- Luke Froeb, Brian McCann, Michael WardShor(Authors)
- 2017(Publication Date)
- Cengage Learning EMEA(Publisher)
CHAPTER 13 • Direct Price Discrimination 169 13.5 Only Schmucks Pay Retail Consumers don’t like knowing that they’re paying a higher price than other consumers. This is summed up in popular sayings like “Only schmucks pay retail.” 3 If low-elasticity consumers know they’re being discriminated against, they may even refuse to purchase. A study of online pricing showed that when shoppers are asked whether they have any discount or coupon codes (thus revealing the existence of Price Discrimination), a large number of customers abandon their virtual shopping carts, which can make Price Discrimination unprofitable. 4 So, if you’re price discriminating, it’s important to keep it a secret if you can. Otherwise, you may lose your high-value customers to rivals who don’t price discriminate (or who hide it better). SUMMARY & HOMEWORK PROBLEMS Summary of Main Points • Price Discrimination is the practice of charging different people or groups of people different prices based on differences in demand. Typically more people are served under Price Discrimination than under a uniform price. • Arbitrage can defeat a Price Discrimination scheme if enough of those who purchase at low prices resell to high-value consumers. This can force a seller to go back to a uniform price. • If a seller can identify two groups of consumers with different demand elasticities, and can prevent arbitrage between the groups, it can increase profit by charging a higher price to the low- elasticity group. • Direct Price Discrimination requires that you be able to identify members of the low-value group, charge them a lower price, and prevent them from reselling their lower-priced goods to the higher- value group. • It can be illegal for a business to price discriminate when selling goods to other businesses unless • price discounts are cost-justified, or • discounts are offered to meet competitors’ prices. • Price Discrimination may outrage customers who discover that others are getting a better price.
eBook - PDFMicroeconomics
Theory and Applications
- Edgar K. Browning, Mark A. Zupan(Authors)
- 2019(Publication Date)
- Wiley(Publisher)
The difference in elasticities occurs because there is more competition in world markets. For instance, Japanese firms have been alleged to dump products in the United States by selling them at lower prices here than in Japan. In this case of Price Discrimination, U.S. consumers might applaud the practice because they are the ones who benefit. If we can get TVs, stereos, radios, steel, and cars from Japan more cheaply than we can produce them here, the average real income of U.S. consumers rises. Intertemporal Price Discrimination and Peak-Load Pricing Intertemporal Price Discrimination is a form of third-degree Price Discrimination. When different market segments are willing to pay different prices depending on the time at which they purchase the good, a firm can increase its profit by tailoring its prices to the demands of the various market segments. Take the case of video programming. Distributors of television programs and motion pictures discriminate among audiences by releasing their products at different times (known as windows) and through different channels. Historically, movies were released through a series of “runs,” beginning with first-run theaters in big cities and working down to small community theaters. Over the past three decades, the typical domestic release sequence for a successful U.S. feature film has changed to cinema, 12.4 intertemporal Price Discrimination a form of third-degree Price Discrimination in which different market segments are willing to pay different prices, depending on the time at which they purchase the good The Cost of Being Earnest When It Comes to Applying to Colleges A large number of the 1,800 private four-year colleges in the United States use statistical analysis to determine how much financial aid to offer prospective students and thereby increase the schools’ tuition revenue. 4 By offering less financial aid, a college in effect charges a higher tuition price to a prospective student.
eBook - PDFContemporary Industrial Organization
A Quantitative Approach
- Lynne Pepall, Dan Richards, George Norman(Authors)
- 2011(Publication Date)
- Wiley(Publisher)
Our analysis has concentrated on the “traditional” forms of Price Discrimination: first-degree or personalized pricing, second-degree or menu pricing, and third-degree or group pricing. In order to implement any kind of Price Discrimination, the firm has to solve two problems. First, it needs either an observable characteristic by which it can identify the different types of consumer, or it needs some mechanism by which it can encourage consumers of different types to self-select by type. That is, it needs to solve the identification problem. Second, the firm must be able to prevent consumers who pay a low price from selling to consumers offered a high price. It must solve the arbitrage problem. We have shown how widely observed tactics such as two-part tariffs, menu pricing, and pricing related to age, gender, or time of day serve as means to implement some degree of discriminatory pricing. We have also shown that in many (but not all) such cases, the use of discriminatory techniques can raise social welfare, subject to two qualifications. The first is that in the case of menu and group pricing, the discriminatory practice must somehow raise total output if it is to increase the total surplus. The second is that even when discriminatory pricing raises total surplus, it usually happens that the increased surplus (and more) is transferred to the monopolist. A further constraint must be satisfied when the monopolist knows that it is supplying consumers of different types, knows the actual types, but has no observable characteristic that allows the firm to tell the specific type of each consumer. The monopolist must then rely on second-degree Price Discrimination or menu pricing. An important requirement in the application of menu pricing is that the tactic must be incentive compatible with consumers’ behavior if it is to have the desired profit-increasing effect.
eBook - PDFPrinciples of Pricing
An Analytical Approach
- Rakesh V. Vohra, Lakshman Krishnamurthi(Authors)
- 2012(Publication Date)
- Cambridge University Press(Publisher)
SIX Price Discrimination It is not uncommon for different customers to value the same product differently. This difference in valuation allows one to earn a greater profit by matching the price to a customer’s RP – in other words, selling the same product or service to different buyers at different prices. In many cases, some modification of the product or service is needed to be able to charge different prices. The practice is called Price Discrimination. 1 To see why the practice is more profitable than charging a uniform price, an example is helpful. Example 14 Recall the monopolist from Example 3 in Chapter 4. The demand for the monopolist’s product is described by the demand curve 9 − p. Such a curve can arise in the following way: Suppose there is one customer with a RP of 8, another with a RP of 7, and so on. When the monopolist was restricted to charging a single price, we determined that the price should be $5 a unit, yielding a profit of $16. Suppose the monopolist could get away with charging a different price to each buyer, say, $7 to the buyer with a RP of $8, $6 to the buyer with a RP of $7, and so on until the buyer with a RP of $2. 2 The profit would be 6 + 5 + 4 + 3 + 1 = 19. Examples of Price Discrimination abound. Most movie theaters, for exam- ple, offer student discounts. Thus, filmgoers who qualify as students get a different price from those who do not. Certain tourist attractions in India charge foreigners higher entrance fees than natives. For example, at the Ajanta Cave monument, the price of admission for foreigners is Rs. 250, 1 It raises some legal issues that are discussed later. Suffice it to say that for the kinds of examples we have in mind, they can be safely ignored. 2 The monopolist could charge up to $8 to the buyer with an RP of $8 and so on. The buyer with an RP of $1 can be ignored, as the unit cost is $1. 106 Price Discrimination 107 whereas for natives it is Rs.
eBook - PDFPrices and Quantities
Fundamentals of Microeconomics
- Rakesh V. Vohra(Author)
- 2020(Publication Date)
- Cambridge University Press(Publisher)
Second-degree Price Discrimination identifies, imperfectly, the RPs of the buyers through a form of self-selection. Buyers choose among different packages of goods offered by the seller, and in doing so they reveal something about their RP’s. The trick is to match the package with the RP. We’ll discuss a specific example of this later. Third-degree Price Discrimination involves the use of a customer signal (age, time of day, occupation, usage, income, race) to price discriminate. The important difference between second and third-degree Price Discrimination is that third-degree Price Discrimination uses a direct signal about demand, whereas second-degree Price Discrimination selects indirectly between buyers through their choice of different packages. 2 Why don’t we consider the others? 3 For the firm, not the customer. 3.1 An Example of the Third Degree 57 Every form of Price Discrimination presents an arbitrage opportunity. Therefore, no prescription for Price Discrimination is complete without a discussion of how the resulting arbitrage possibilities will be handled. 3.1 An Example of the Third Degree In Section 2.6, the tale of opposition to Mylan’s pricing of the EpiPen was told. Mylan’s immediate response to the furor was to reduce the out-of-pocket costs of users. The discounts were not uniform, but tied to the kind of insurance plan a user had. So, families on insurance plans with high deductibles, 70% of the total customer base, received a coupon worth up to $300. The uninsured (5% of the total) got free EpiPens provided their income was below 400% of the US Federal poverty level. Those covered by Medicare, Medicaid, and Tricare saw no difference, because such coupons were considered an illegal financial inducement. However, about 90% of such users had coverage for the EpiPen. Keep in mind that Mylan (as other pharmaceutical companies) has always employed such co-pay schemes as a way to price discriminate.
eBook - PDFIndustrial Organization
Contemporary Theory and Empirical Applications
- Lynne Pepall, Dan Richards, George Norman(Authors)
- 2013(Publication Date)
- Wiley(Publisher)
Together, this theory and evidence suggest that Price Discrimination as a tool for inter-firm rivalry can push imperfect competition closer to the competitive ideal. Problems 1. Many universities allocate financial aid to undergraduate students on the basis of some measure of need. Does this practice reflect charity or Price Discrimination? If it reflects Price Discrimination, do you think it lies closer to first-degree discrimination or third- degree discrimination? 2. A food co-op sells a homogenous good called groceries, denoted g. The co-op’s cost func- tion is described by: C(g) = F + cg; where F denotes fixed cost and c is the constant per unit variable cost. At a meeting of the co-op board, a young economist proposes the following marketing strategy: Set a fixed membership fee M and a price per unit of groceries p M that members pay. In addition, set a price per unit of groceries p N higher than p M at which the co-op will sell groceries to non-members. a. What must be true about the demand of different customers for this strategy to work? b. What kinds of Price Discrimination does this strategy employ? 3. At Starbuck’s coffee shops, coffee drinkers have the option of sipping their lattes and cappuccinos while surfing the Internet on their laptops. These connections are made via a connection typically provided by a wireless firm such as T-Mobile. Using a credit card, customers can buy Internet time in various packages. A one-hour package currently goes for an average price of $6. A day pass that is good for any time in the next 24 hours sells for $10. A seven-day pass sells for about $40. Briefly describe the pricing tactics reflected in these options. Price Discrimination and Monopoly: Nonlinear Pricing 141 4. A night-club owner has both student and adult customers. The demand for drinks by a typical student is Q S = 18 − 3P. The demand for drinks by a typical adult is Q A = 10 − 2P.
eBook - PDFVirtual Competition
The Promise and Perils of the Algorithm-Driven Economy
- Ariel Ezrachi, Maurice E. Stucke(Authors)
- 2016(Publication Date)
- Harvard University Press(Publisher)
56 Economic and Social Perspectives 129 Reflections In 2015, we asked lawyers, judges, and economists about their approach to price and behavioral discrimination. We raised these issues to different groups as part of training sessions on competition law. Competition lawyers and economists dominated some groups; in others the participants had limited economic or competition law background. We asked each group for their reaction if they discovered that another online customer had pur-chased goods for a lower price through intended Price Discrimination. Those without an economic background felt it was unfair, so much so that they would stop, if possible, using the seller in question. Interestingly, those with an economic background were less susceptible to feelings of unfair-ness. They felt that this may be acceptable when one wishes to facilitate ac-cess for lower-income consumers, create positive externalities, and increase and optimize production. When faced with questions about behavioral dis-crimination, participants were more united in their approach. Some felt ma-nipulated, others exposed. Many indicated lack of belief as to the ease with which their actions may be affected by simple “tricks of the trade.” As companies’ data collection and analytics improve, so too will their ability to discriminate. Targeted pricing may, in particular, be sustainable where a market is stable and exhibits barriers to entry or expansion, lim-ited outside options, heterogeneous or branded goods, imperfect informa-tion flows, or the ability to distort or inhibit information exchange. It may also be sustained in markets that attract loyal customers or where companies develop and customize distinguishable products for partic-ular purchasers. 57 Even if companies can discriminate, this does not necessarily mean that they will. Behavioral discrimination—given its manipulation of our emotions and our expectation of a fair competitive price, which everyone pays—will likely be condemned.
eBook - PDFIndustrial Organization
Markets and Strategies
- Paul Belleflamme, Martin Peitz(Authors)
- 2015(Publication Date)
- Cambridge University Press(Publisher)
9.1 Menu pricing vs. group pricing The previous chapter described situations where the sellers are able to infer their buyers’ willing-ness to pay from some observable and verifiable characteristics of those buyers (like age, gender, location, etc.). In many situations, however, there exists no such reliable indicator of the buyers’ willingness to pay. How much a consumer is willing to pay is their private information. The only way for a seller to extract more consumer surplus is then to bring the consumer to reveal this private information. To achieve this goal, the seller must offer his product under a number of ‘packages’ (i.e., some combinations of price and product characteristics). The key is to identify some dimensions of the product that are valued differently across consumers, and to design the product line so as to emphasize differences along those dimensions. The next step consists of pricing the different versions in such a way that consumers will sort themselves out by select-ing the version that most appeals to them. Such practice is known as menu pricing, versioning, second-degree Price Discrimination or nonlinear pricing. A few examples are given in Case 9.1 . Case 9.1 Examples of menu pricing in the information economy The dimension along which information goods are versioned is usually their quality , which is to be understood in a broad sense (for instance, the quality of software might be measured by its convenience, its flexibility of use, the performance of the user interface, etc.). For instance, ‘nagware’ is a form of shareware that is distributed freely but displays a screen encouraging users to pay a registration fee, or displaying ads. In this case, annoyance is used as a discriminating device: some users will be willing to pay to turn off the annoying screen. Versioning of information goods can also be based on time , following the tactic of delay.
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