PriceDiscrimination
ALevelEconomics
Studentsshouldbeableto:• Explainandevaluatethepotentialcostsandbenefitsof
monopolytobothfirmsandconsumers• Explaintheconditionsnecessaryforpricediscriminationto
takeplaceandgiverelevantexamples• Diagramsshouldalsobeusedtosupporttheunderstanding
ofpricediscrimination
• Pricediscrimination isdefinedasabusinesschargingdifferentconsumersdifferentpricesforthesameproduct
• Pricevariationsdonotfullyreflectthemarginalcostofsupplyingaproducte.g.highercostsforparcelsdeliveredovershortandlong-hauldistancesintheUKandoverseas
• Thereareseveraltypesofpricediscrimination1. 1st degreediscrimination2. 2nd degreediscrimination3. 3rd degreediscrimination4. TheHurdleModelofpricediscrimination
• Pricediscrimination isnotthesameasproductdifferentiationwherethequality/characteristicsofthegood/servicevarybythetypeofcustomer
WhatisPriceDiscrimination?
• Chargingdifferentpricesforeachindividualunitpurchased– i.e.peoplepaytheirownindividualwillingnesstopay
1st degree
• Pricesvaryingbyquantitysolde.g.bulkpurchasediscounts• Pricesvaryingbytimeofpurchasee.g.peak-timeprices
2nd degree
• Chargingdifferentpricestogroupsofconsumerssegmentedbypriceelasticityofdemand,income,age,sex
3rd degree
TypesofPriceDiscrimination
MainAimsofPriceDiscrimination
ExtraRevenue HigherProfit ImprovedCashFlow
UseUpSpareCapacity
Providing thatextraunitsofagoodorservicecanbesoldforapriceabovethemarginalcostofsupply,pricediscrimination isaneffectivewaytoincreaserevenueandprofits
Pricediscrimination takesusawayfromthestandardassumption intheoryofthefirmthatthereisasingleprofit-maximisingpriceforthesamegoodorservices
HurdleModelofPriceDiscrimination• ThehurdlemodelisassociatedwitheconomistProfessorRobertFrank• Thehurdlemethodseparatesbuyerswithlowwillingnesstopayfrom
thosehappytopayapremiumprice– oftentobethefirsttouseit• Totakeadvantageofalowerprice,theconsumermustbepreparedto
overcomeorjumpoversomekindofhurdlewhichactsasaninconvenience.Forexample:1. Theymighthavetodelayapurchaseuntilaproductisremaindered,
soldoffatlowerpriceswhenamoreadvancedversionisavailablee.g.secondeditionpaperbacks,olderDVDs
2. Theymayhavetorisknotgettingtheproductatatimeandplaceoftheirchoosinge.g.relyingonstand-byticketsforshowsandairlines
3. Theymaygetadeeperdiscountiftheproductismildlydamagedoronceused e.g.dentedhouseholdappliances- “seconds”
4. Discountsmayrequirecustomerstocollect&redeemcoupons• Customerspreparedtodothistendtobemorepricesensitive(Ped>1)
HurdleModelofPriceDiscrimination
Cheaperpricesfornearlynewproducts
Discountsforthosepreparedtocollect
coupons
Cheaperpaperbackspublished afterthehardbackrelease
Onceusedorremainderstocksofcomputergames
Discountticketboothsforstand-by/last-minutepurchasers
Discountsonlyforcustomerswhovisitthestoreonagivenday
• Monopolistsalwayshavepricingpower– pricemakersnottakers
Firmsmusthavesufficientmonopoly(market)power
• I.e.consumerswithdifferentpriceelasticitiesofdemand
Identifyingdifferentmarketsegments
• Requiresinformation/sufficientmarketintelligence
Abilitytoseparatedifferentgroups
• Nosecondarymarketswherearbitragecantakeplaceatintermediatepricese.g.limitingsales,age-restrictions,IDcards
Abilitytopreventre-sale(arbitrage)
ConditionsforPriceDiscrimination
Markethaggling Mobilephonecontracts/tariffs
Taxifaresatpeaktimesoftheday
Cinematicketprices
Hairdresserdiscounts
Educationalbursaries
PriceDiscriminationinAction
RecentExamplesofPriceDiscrimination• Jan2016:ThepopularonlinefashionretailsiteAsos has
decidedtointroducezonalpricing– i.e.chargingvaried,morecompetitive,pricesindifferentpartsoftheworld
• Dec2015:Nurofen wasfoundguiltybyanAustraliancourtofmisleadingcustomersbysellingthesamepainkillersatdifferentprices.
• Dec2015:Moreairlines decidetouseonlineauctionsusingemailstoexistingcustomerstosellpremiumseatsratherthangivingthemtoloyalcustomersforfree
• Nov2015:Airbnb introducesasmartpricingmodel- Airbnbannouncedapricingtoolthatwilladjusttochangingsupplyanddemandconditionsinalocalarea
• Oct2015:WHSmithaccusedofpricegouging– i.e.sellingproductssuchasbottledwaterforsignificantlyhigherpricesintheirhospitaloutletsthaninnearbyhighstreetstores
Hyper-Targeting:PersonalisedPricing
B&Qtestingelectronicpricetags
Targeteddealsforonlinecustomers
Personalisedloyaltycards/userprofiles
E-CommerceandtheRiseofPersonalisedPricingNowmorethaneverbusinesseshavethepotentialtoharnessinformationcontainedindigitalprofilesofcustomerstoofferbespoke,personalisedpricesfordifferentgoodsandservices.Thecostsofmarketandconsumersegmentationarecomingdown.Onsomewebsites,differentdealsandpricesappearasperthelocation,browsinghistoryandoperatingsystemusedbythepotentialbuyer.Isthisformofhyper-pricetargetinglegaland/orethical?
NurofenandPriceGougingAllegations
NurofenwasfoundguiltyinDecember2015byanAustraliancourtofmisleadingcustomersbysellingthesamepainkillersatdifferentprices.Labelsonthepacksofitsanalgesicdrugssuggesttheytargettypesofpainsuchasmigraines,periodpainandsorebacks.Infact,theyallcontainthesameingredient– ibuprofenlysine
TicketPricesatVueCinema(Leeds)
MenuPricesatJimmyChung’sJimmyChung’sEdinburghLunchMonday- Thursday- (12.00-16.30)£6.49perperson(childrenunder11years£3.99)Friday- Sunday - (12.00-16.30)£6.99perperson(childrenunder11years£4.49)DinnerSunday- Thursday- (17.00-22.30)£10.49perperson(childrenunder11years£4.99)Friday- Saturday- (17.00- 23.00)£11.49perperson(childrenunder11years£5.49)PricesmayvaryduringLocal/Public/Schoolholidays,Easter,andDecemberperiod.
EntryChargesforYorkMinster
ProductDifferentiationatWork?
DifferentiationandPriceDiscrimination
2nd DegreePriceDiscriminationatWork
HeavyUsersPayLessforGas&Electricity
Fuel Size ofconsumer(non-householdusers) PenceperkWhElectricity VerySmall 13.19
Small 12.24Small/Medium 10.96Medium 10.04Large 9.60VeryLarge 9.48ExtraLarge 9.23Average 10.45
Gas VerySmall 4.949Small 3.198Medium 2.578Large 2.024VeryLarge 1.716Average 2.749
SpottheHalfTermHoliday!
3rd DegreePriceDiscriminationAnalysis
Price
Output
Price
Output
ARAR
MRMR
MC MC
Elasticdemand–consumersresponsivetosmallpricechanges
Inelasticdemand–highwillingness/abilitytopay
3rd degreepricediscrimination involvessegmentingconsumersintogroups
3rd DegreePriceDiscriminationAnalysis
Price
Output
Price
Output
ARAR
MRMR
MC MC
Elasticdemand–consumersresponsivetosmallpricechanges
Inelasticdemand–highwillingness/abilitytopay
P1
Q1
Pricesensitiveconsumerswithlowerwillingness topayarechargedless
3rd DegreePriceDiscriminationAnalysis
Price
Output
Price
Output
ARAR
MRMR
MC MC
Elasticdemand–consumersresponsivetosmallpricechanges
Inelasticdemand–highwillingness/abilitytopay
P1
Q1
P2
Q2
WhenPed<1firmscanraisetheirpriceandextractconsumersurplus
Price
Output
PeakandOffPeakDemandandPricing
MRoffpeak
ARoffpeak
MC
Poff-peak
Q1
Atoff-peaktimes,marketdemandislowandfirmswillhavesparecapacity
Price
Output
PeakandOffPeakDemandandPricing
MRoffpeak
ARoffpeak
MC
Poff-peak
Q1 Q2
Ppeak
Atpeaktimes,marginalcostmayalsobehigherascapacitylimitsarereached
MRpeak
ARpeak
SeasonalDemandforHotelsintheUSA
Theoccupancyrateofhotelsfollowsaseasonpatternreachingapeakduringthesummermonths.Atoff-peaktimes,theoccupancyratecandeclinetolessthan50%i.e.thereisplentyofsparecapacity
40.0%
45.0%
50.0%
55.0%
60.0%
65.0%
70.0%
75.0%
80.0%
Jan Feb March April May June July Aug Sep Oct Nov Dec
Occupancyra
te(perce
nt)
2011 2012 2013 2014 2015
UberandPriceDiscrimination
SurgePricing
PeakDemand
• Uberisafast-growingtaxiserviceappthatnowoperatesinmorethan50countries
• InMay2015,Uberwasvaluedatabout41billionU.S.dollarsbyventure-capitalfirms
• Uberengagesinsurgepricing– alsoknownasdynamicpricing
• Whenmarketdemandout-stripsavailablesupplye.g.atpeaktimes,thenUberraisestheaveragefareontheirapp
• Theaimistoencouragemoredriverstotaketotheroadstoexpandsupply
• Thebusinessistakingadvantageoflowpriceelasticityofdemandatbusytimes
• Someeconomistshavecriticisedthispolicyespeciallyduringemergenciessuchasfreakweathereventsandterroristattacks
TheWelfareCaseAgainstPriceTargeting
Exploitationoftheconsumer– themajorityofconsumerstillpaymorethanmarginalcost
Extractionofconsumersurplusturnedintohigherproducersurplus/supernormalprofit
Possibleuseofdiscriminationasalimitpricingtactic/andabarriertoentrytorivalfirms
Ultimately,ifsuccessful,itreinforcesthemonopolypower/dominanceofexistingfirms
ArgumentsinSupportofPriceTargetingPotentialforcrosssubsidyofactivitiesthatbringsocialbenefitsi.e.chargingmuchlowerpricesfordrugsinlower&middle-incomecountries
Makingbetteruseofsparecapacity– thiscanhaveenvironmentalbenefits– lesswasteetc
Itbringsnewconsumersintomarket– whowouldotherwiseexcludedbya‘normal’higherprice
Useofmonopolyprofitforresearch– thisisastimulustoinnovation/dynamicefficiencygains
PriceDiscrimination
EdExcelA2MicroTopic3.3.9
Studentsshouldbeableto:• Explainandevaluatethepotentialcostsandbenefitsof
monopolytobothfirmsandconsumers• Explaintheconditionsnecessaryforpricediscriminationto
takeplaceandgiverelevantexamples• Diagramsshouldalsobeusedtosupporttheunderstanding
ofpricediscrimination
