WEEK 2 - Price Discrimination/Price Strategies Flashcards
When does Price Discrimination occur?
When:
- Dif consumers pay dif avg price without this being justified by cost differences
What is Uniform pricing?
same price across markets
What firms charge dif prices based on?
By charging dif prices based on:
- Individual characteristics
- Belonging to identifiable sub-groups of consumers
- Quantity Purchased
Why do firms earn higher profits from price discrimination?
- Price Discriminating firms charge higher prices to people willing to pay more than uniform price
- Price discrim for firms sell to some not willing to pay as much as uniform prices
What are the conditions for Price Discrimination?
- Must have mkt power: Else cannot change price above comp price
- Firms must be able to identify what consumers willing to pay, must be variation in consumers’ reservation price max amount someone willing to pay
- Arbitrage not allowed
- Biggest obstacle to successful price discrim
- Resale dif/ impossible when transaction costs higher and impossible for services
What are the 3 differing types of Price Discrimination?
1st Degree: (Perfect Price Discrim)
- Individual Price for each unit purchased by consumer
- Each unit sold for consumer’s reservation price
2nd Degree: (Menu Pricing) (Non-Linear Discrim)
- Use of self selecting devices (target specific package for each class of buyer)
- Charge dif price for large quantities than for small quantities
3rd Degree: (Group Pricing):
- Segmentation based on indicators related to consumer preferences (Dif prices per group)
What are some elements of 1st Degree Price Discrimination?
Firm charges each customer price = To maximise willingness to pay
- Each consumer at 0 Consumer Surplus
- Profit increased by amount of CS that would exist in comp market, all CS transferred to firm
What is the model for 1st Degree? (Discriminating Monopoly Revenue)
∫ D(q)dZ
Since D(Q) is the inverse demand function for total output, Q and P = D(Q) is the reservation price
SEE IN NOTES
How do you maximise profit by choosing output?
Max Q π = ∫D(z)Dz - C(Q)
FOC = dπ/dQ = D(Q) - dc(Q)/dQ = 0
Monopolist where D (Q) = MC
SEE IN NOTES
What is the outcome of firms introducing 1st degree price discrimination?
- Producing where demand = MC yields that all consumers surplus (A+B+C) transferred to firm’s profit
- Competitive Quantity of output produced as producing at MC = D
- No DWL generated
- Harmful to consumers as all surplus is producer surplus
What are some elements of 3rd price degree discrimination?
- Firms divide potential customers into 2 or more groups (based on easily observable characteristics) and set dif price for each group
- Demand elasticity matters
What is the model in 3rd degree price discrimination?
Firms chooses Q’s sold to each group Q1 and Q2 such that:
MAX Q1,Q2 = R1(Q1) + R2(Q2) - C(Q1 + Q2)
FOC’s:
∂π / ∂Q1 = dR1 (Q1) / dQ1 - dC(Q)/ dQ = 0 (Q1)
∂π / ∂Q2 = dR2 (Q2)/ dQ1 - dC(Q)/dQ ∂Q/∂Q2 = 0 (Q2)
MR1 = MC = MR2
- Cus MR function of elasticity, can write:
MR A = Pa (1 + 1/ εa) = M = Pb (1 + 1/εb) = MRb
Pb/Pa = 1 + 1/εa / 1 + 1/εb
1 + 1/ε = MR
What does the function of elasticity for 3rd degree price discrim explain?
Changes in elasticity in the market affects proportions of prices in both
- Thus, higher prices charged in less elastic segments
SEE GRAPH IN NOTES
What is the overall CS, Welfare etc. look like in 2nd degree price Discrimination?
SEE GRAPH IN NOTES
BLOCK PRICING: CS - PS - Welfare- DWL -
SINGLE PRICE MONOPOLY: CS - PS - Welfare - DWL -
What is a two part tariff (2nd degree)?
- Lump sum fee for right to purchase (1st tariff)
- Per unit fee for each unit actually purchased (2nd Tariff)
e.g.
If consumers identical, firm can capture all CS by setting charging a lump- sum, ‘access fee’ equal to CS
CA1 + B1 + C1 and usage fee equal to MC (M)
