Price Discrimination Can Be Annoying, But It Does Have Its Benefits
Charging different consumers different prices for the exact same thing can be anti-competitive, but it can sometimes instead be pro-consumer.
We all know how annoying it can be to travel by air nowadays, with the way airlines nickel-and-dime us for every extra convenience, from choosing our seats on the plane to the number of bags we check. And that says nothing about how we feel when we pay a certain amount for airfare, only to find the person sitting next to us might have paid a significantly lower amount for their seat. Your Ride On writers are not about to argue against these feelings, but for what it’s worth, there are benefits of such price discrimination to all of us. That is our focus in our newsletter today.
Such market segmentation strategies, in which businesses divide consumers into segments so they can target them with their own specialized quantities and prices, form the basis for much of price discrimination. For example, club owners would like to charge their thirstier customers higher prices, but they cannot do so if they cannot identify them. In fact, segmentation is easier for markets such as movie theatres, magazine subscriptions, and education (e.g., tuition subsidies), as will become clearer as this issue of our newsletter proceeds.
Even if market segmentation is easy, it will not necessarily be successful. For example, the firm trying to implement these practices must ensure price-sensitive customers cannot resell the good to more price-insensitive customers. As the world becomes more technologically-advanced with online markets such as eBay and Kijiji, market segmentation strategies are less likely to be successful.
Obviously, these strategies might be easier to implement successfully with services, since they cannot be resold. As for goods, there are at least seven reasons reselling them might be difficult, if not downright impossible, for consumers:
Warranties: for example, if someone resells an automobile to someone else who is willing to pay more for it, then the warranty will be invalidated.
Adulteration: businesses have been known to poison medicinal alcohol and let everyone know they did so, so they would not be resold to alcoholics.
Transaction costs: depending on the product, and the ease with which buyers and resellers can make a transaction, resale might be more trouble than it is worth. For example, governments implement tariffs to counter benefits of cross-border shopping; transportation costs also counter such benefits.
Contractual remedies: businesses might legally forbid resale in their contracts with the original purchasers. For example, a person cannot sell their air travel ticket to someone else because the ticket is associated with them personally. Also, university professors and students can purchase computer software rather cheap; legally, they are not allowed to be resold — although that does not stop some people, does it now?
Vertical integration: suppose the reseller is another business that has decided to make money by reselling another business’ product to the final consumer. Then the original seller can merge with the reseller, thus cutting out the middleman.
Government intervention: governments can themselves legally forbid resale of products to certain groups of people. For example, textbooks are sold for much lower prices in developing countries because students there cannot afford to pay the prices that our students pay for these books (same with pharmaceuticals). It seems it would be nice if people here could go online and save a lot of money by purchasing books from these countries, but doing so is forbidden by law.
“NO SOUP FOR YOU!”: some businesses simply refuse to sell their products to people they suspect will “flip” their merchandise in the resale market.
In summary, although all firms would like to price discriminate, doing so is not always feasible. There are three necessary conditions for successful price discrimination:
A firm must have some market power.
The firm must know, or be able to infer how much consumers are willing to pay for each unit, and this willingness to pay must vary across consumers or units.
A firm must be able to prevent or limit resale by customers who pay the lower price, to those who are willing to pay the higher price.
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