Why is 2nd degree price discrimination more effective? / Why is 3rd degree ineffective harder?
Third-degree price discrimination requires clear identification of groups and being able to limit low prices to specific groups of customers. (e.g. students versus OAPs).
But in many cases, either,
- the firm does not receive a signal about the consumer’s demand function (unlike 3rd degree, where a signal such as age or other status is received).
or overt discrimination between groups is not feasible.
So discrimination usually takes place by providing (non linear) tariffs or limiting availability, or menus of prices.
Two Part Tariffs
Two separate products elements.
One price to enter (buy the toothbrush), another to use the facilities (heads). Because demand is interrelated, the entry element may be even be sold below marginal cost, to generate more revenue later.
There may be a “requirements tie in” where people who buy/ rent one product (a photocopier) are required to obtain toner etc from the same company.
A means of discriminating between people who use the product a lot (and so presumably value it more highly) and tose who use it comparatively little).
Fully Non-Linear Tariffs
Here the firm offers a range of tariffs amongst which consumers choose. Hence they self select into a particular category. So for example, Mobile tariffs
- Pay as you go,
contracts with various levels of free minutes and data
- so different monthly charge plus (different unit ) costs
- Also bundled handsets
These are goods where a firm has deliberately downgraded or crippled a product features in order to differentiate between products. Commonly used for software.
Revenue or Yield Management
Idea: is that a certain number of seats are sold at a low price, then others “protected” for sale later at a higher price.
So markets segmented by the time of demand - leisure passengers are in more elastic demand and book earlier; business passengers book later. A form of 2nd type price discrimination.
Standard framework with airlines, hotels, car rental, tv advertising slots,
-expensive or impossible to store excess
- commitments must be made when demand is uncertain
- a firm can discriminate segments
- Same unit of capacity can deliver different products.
Bid Price Approach
Start from low prices, accepting a certain number of customers at that price (dependent on historical demand for seats at that time/location etc).
- So if demand expected to be high, offer fewer seats/beds at the low prices than if demand expected to be low.
- Then as seats are sold, raise price dependent on the rate of sale.
- Implies correcting for special factors on this occasion that were not apparent in the historical data.
Hence superior to the traditional method.
Brand Price Premia
Essentially a form of second degree price discrimination. Production costs commonly identical, people place value on the brand name, even for simple products, so supermarkets offering both can benefit from both types of customers, brand-oriented and value-oriented.
Reasons for this (Bronnenerg and Dube)
- Persistence over lifetime (state of origin of work)).
- Switching costs and loyalty (n.b. blind taste tests)
- Advertising and quality assurance *build up of advertising goodwill).
- Limited search for alternatives (trade-off between information and prior knowledge)