Advanced Pricing Techniques

Price discrimination

Multiple products

Cost-plus pricing

Capturing Consumer Surplus

Uniform pricing

Charging the same price for every unit of the product

Price discrimination

More profitable alternative to uniform pricing

Market conditions must allow this practice to be profitably executed

Technique of charging different prices for the same product

Used to capture consumer surplus (turning consumer surplus into

profit)

The Trouble with Uniform Pricing (Figure 14.1)

Grafik (slide 4)

Price Discrimination

Exists when the price-to-marginal cost ratio differs between two markets

PA
P
B
MC A MC B
Price Discrimination
Three conditions necessary to practice price discrimination profitably:
1) Firm must possess some degree of market power
2) A cost-effective means of preventing resale between lower- and higherprice buyers (consumer arbitrage) must be implemented
3) Price elasticities must differ between individual buyers or groups of
buyers

First-Degree (Perfect) Price Discrimination

Every unit is sold for the maximum price each consumer is willing to pay

Allows the firm to capture entire consumer surplus

Difficulties

Requires precise knowledge about every buyers demand for the good

Seller must negotiate a different price for every unit sold to every
buyer

First-Degree (Perfect) Price Discrimination (Figure 14.2)

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Second-Degree Price Discrimination

Lower prices are offered for larger quantities and buyers can self-select the
price by choosing how much to buy

When the same consumer buys more than one unit of a good or service at a
time, the marginal value placed on additional units declines as more units are
consumed

Examples of Second Degree Price Discrimination

Two-part pricing

Block pricing

Second-Degree Price Discrimination

Two-part pricing

Charges buyers a fixed access charge (A) to purchase as many units as

they wish for a constant fee (f) per unit

TE is:A fq
Total expenditure (TE) for q units
Average price (p) is: p

TE A fq

q
q

Average price declines as more is purchased

A

Second-Degree Price Discrimination

When consumers have identical demands, entire consumer surplus can be

captured by:

Setting f *= MC

Setting A* = consumer surplus (CS)

Optimal usage fee when two groups of buyers have identical demands is the
level for which MRf = MCf

Inverse Demand Curve for Each of 100 Identical Senior Golfers

(Figure 14.3)

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Summary of Two Part Pricing

Consumers will purchase product until marginal benefit = unit price

Unit price will at least cover marginal cost

With consumers with different preferences unit price will be above

marginal cost

Consumers will choose to purchase as long as consumer surplus given unit

price is greater than lump-sum fee (right to purchase)

With identical preferences monopolist will capture the entire consumer

surplus

With different preferences some consumers will retain part of their

consumer surplus

Demand at Northvale Golf Club

(Figure 14.4)

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Second-Degree Price Discrimination

Declining block pricing

Offers quantity discounts over successive discrete blocks of quantities

purchased

Block Pricing with Five Blocks

(Figure 14.5)

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