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Price Discrimination Applications

The document discusses various pricing strategies including price discrimination, quantity discrimination, and bundling. It provides examples and calculations to illustrate how firms can maximize profits through these strategies compared to uniform pricing. Key concepts covered include first, second, and third degree price discrimination as well as their applications.

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Amine El Azdi
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41 views22 pages

Price Discrimination Applications

The document discusses various pricing strategies including price discrimination, quantity discrimination, and bundling. It provides examples and calculations to illustrate how firms can maximize profits through these strategies compared to uniform pricing. Key concepts covered include first, second, and third degree price discrimination as well as their applications.

Uploaded by

Amine El Azdi
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Price Discrimination

Applications
FIRST DEGREE PRICE
DISCRIMINATION
Figure 1 Competitive, Single-Price, and Perfect
Discrimination Equilibria
p, $ per unit
p1

A MC
es
ps
B
C
pc = MC c ec
E

D MC s

Demand, MR d
MC 1

MR s
Qs Q c = Qd Q , Units per day
Figure 1 Competitive, Single-Price, and Perfect
Discrimination Equilibria (cont.)
Application Botox Demand
(make the explicit calculations)

12-5
Solved Problem 2
• Competitive firms are the customers of a union,
which is the monopoly supplier of labor services.
Show the union’s “producer surplus” if it perfectly
price discriminates.
• Then suppose that the union makes the firms a take-
it-or-leave-it offer: They must guarantee to hire a
minimum of H* hours of work at a wage of w*, or
they can hire no one.
• Show that by setting w* and H* appropriately, the
union can achieve the same outcome as if it could
perfectly price discriminate.
Solved Problem 2

12-7
SECOND DEGREE PRICE
DISCRIMINATION
Application
• Assume that the monopolist can charge two
prices, 70 for the first 20 units and then 50 for
the subsequent ones.
• Compare price, quantities and profits to the
standard uniform price monopolist
Figure 3 Quantity Discrimination
(a) Quantity Discrimination (b) Single-P rice Monopoly
p 1 , $ per unit

p 2, $ per unit
90 90

A =
$200
70
E = $450
60
C =
$200
50

B = F = $900
$1,200 D =
$200 G = $450
30 m 30 m

Demand Demand

MR

0 20 40 90 0 30 90
© 2009 Pearson Addison- Q , Units per day Q , Units per day
12-10
Wesley. All rights reserved.
Figure 3 Quantity Discrimination (cont.)
THIRD DEGREE PRICE
DISCRIMINATION
Multimarket Price Discrimination
• The most common method of multimarket
price discrimination is to divide potential
customers into two or more groups and set a
different price for each group.
Solved Problem 4
• A monopoly drug producer with a constant
marginal cost of m = 1 sells in only two
countries and faces a linear demand curve of
Q1 = 12 − 2p1 in Country 1 and Q2 = 9 − p2 in
Country 2. What price does the monopoly
charge in each country, how much does it sell
in each, and what profit does it earn in each
with and without a ban against shipments
between the countries?
Solved Problem 4
Solved Problem 4 (cont’d)
Solved Problem 5
Suppose the demand functions for two groups of consumers are D1: P = 101 –
13Q and D2: P = 53 – 7 Q.
Notice that D1 is steeper and so less elastic than D 2 .
(So group 1 will pay a higher price than group 2.)
The total cost function is TC = 90 + 128Q – 22Q2 + Q3 .
If the firm is able to price discriminate between the two groups, determine
the prices that should be charged, the quantities that will be purchased, total
revenue, total cost, and profit.

• We need to equate the two MR functions to the MC function.


• MC = dTC/dQ = 128 – 44Q + 3Q2.
• Group 1: TR1 = PQ = (101 – 13Q)Q = 101Q – 13Q2 , and
• MR1 = dTR1/dQ = 101 – 26 Q
• Group 2: TR2 = PQ = (53 – 7Q)Q = 53Q – 7Q2 , and
• MR2 = dTR2/dQ = 53 – 14 Q
Our Group 1 Demand function was P = 101 – 13 Q, and
the MR function was MR 1 = 101 – 26 Q.
The MC function was MC = 128 – 44Q + 3Q2.

• Set MR1 = MC: 101 – 26 Q = 128 – 44Q + 3Q2


• 0 = 3Q2 – 18Q + 27
• Dividing by 3 to simplify: 0 = Q 2 – 6Q + 9
• 0 = (Q – 3) (Q – 3)
• Q–3=0
• So for Group 1, Q = 3
• From Group 1’s demand function, P1 = 101 – 13 (3) = 62.
• The revenue from Group 1 will be PQ = (62)(3) = 186.
Our Group 2 Demand function was P = 53 – 7 Q, and
the MR function was MR2 = 53 – 14 Q.
The MC function was MC = 128 – 44Q + 3Q2.

• Set MR2 = MC: 53 – 14 Q = 128 – 44Q + 3Q2


• 0 = 3Q2 – 30Q + 75
• Dividing by 3 to simplify: 0 = Q 2 – 10Q + 25
• 0 = (Q – 5) (Q – 5)
• Q–5=0
• So for Group 2, Q = 5
• From Group 2’s demand function, P2 = 53 – 7 (5) = 18.
• The revenue from Group 2 will be PQ = (18)(5) = 90
Adding the revenues from the two groups together, we get
TR = 186 + 90 = 276.
•Since we produced 3 units for Group 1 and 5 for Group 2,
our production level is 8.
•Plugging 8 into our total cost function,
TC = 90 + 128Q – 22Q2 + Q3 = 218.
•So our profit is  = TR – TC = 276 – 218 = 58.
Bundling
• Bundling is packaging two or more products to
gain a pricing advantage.
• Conditions necessary for bundling to be the
appropriate pricing alternative:
• Customers are heterogeneous.
• Price discrimination is not possible.
• Demands for the two products are negatively
correlated.
Consider the following reservations prices,
for two buyers: Alan and Beth

Sum of
Stereo TV reservation
prices
Alan $225 $375 $600

Beth $325 $275 $600


Maximum price for
$225 $275
both to buy the good
To get both people to buy both goods without bundling, you can
only charge $225 + $275 = $500, & each person would have
consumer surplus of $600 – $500 = $100.
If you bundle, you can charge $600 & consumer surplus = 0.

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