Economics a Price Discrimination Strategy Is One

Economics

A price discrimination strategy is one where different customers are charged different amounts. The price charged for my shop's submarine sandwiches will therefore be different for locals than for visitors. There are a number of ways to achieve this. In the context of a sandwich shop, the prices are going to be listed publicly on the menu, so it is impossible to openly discriminate with respect to prices. One technique that can be utilized to lower the average cost for each sub-for locals is to offer a loyalty card. The local would then receive either a discount or a free sub-after making enough purchases. This would deliver a lower price to locals in the long run. Alternately, a loyalty club can allow the locals to receive discounts if they are members of the club. A certain amount of annual sales would be required for club membership, or even a small fee could be implemented to join the club. Under this plan, only locals would have an incentive to join the club. Once in the club, the locals would receive a standard discount on their purchases. Again, this lowers the average price per sub-for locals in a way that visitors to town cannot take advantage of.

If the legislature implements a price ceiling that is below the current equilibrium price, two things will occur. Presumably, this price will be lower than the current price, if the current price is at equilibrium. The lower price will spur an increase in demand. This will reduce the marginal cost to the cable company as it takes advantage of improved economies of scale. However, there is the risk that the decrease in marginal cost will not be matched by a decrease in the price charged. Thus, the cable company will in all likelihood experience a loss as the result of this price ceiling. Faced with both a loss and an increase in their customer base, the cable company would either have to lower its cost of service per customer or it would be forced to go out of business.

If the cable company adopted the former strategy, of lowering the cost of its programming, it is expected that the demand for programming would decrease. Ideally, the cable company would decrease the quality of its programming to the point where demand for cable and the cost of providing service meet the price ceiling. This would be the new equilibrium point. Whether this is higher or lower than the unregulated equilibrium would depend on whether the price or quality elasticity of demand is stronger.

Perfect competition is characterized by all sellers being equal, markets having perfect information, an undifferentiated product and all firms have easy entry and exit (Investopedia, 2010). If demand for the product falls, then in the short run firms will see a decline in profitability. They are price takers, so they will be forced to lower their prices in an attempt to maintain past volumes. In the short-run, firms may remain in the market, depending on what other alternatives they might have (for example, selling other goods). In the long-run, if demand falls, some firms will exit the industry, as it will have become unprofitable for all competitors. When a few firms exit the industry, the sales volumes at the remaining firms will increase. The price will not likely increase, but compared with the default state the firms in the industry will be selling greater volume as the result of having fewer competitors. This will bring the market to a new equilibrium point.

If demand for the product rises, the firms in the industry will see an increase in profits in the short run. New players will not enter the market until they are certain that this increase in demand is permanent and better than the alternatives. Over the long-run, new players will see the higher profits being earned and will enter the market. As a result, the firms that had been earning more customers and higher profits will see a reduction in customers. This will bring the market to a new equilibrium point.

Some average long-run cost curves are steeper on the downside than others because different industries and products have different levels of scalability. The LRAC curve typically slopes downward as the quantity produced increases, the result of greater levels of efficiency that lower the marginal cost of news goods produced. As the marginal cost is lowered, so too will the average cost. However, not all goods are perfectly scalable. The production level of some goods can be increased easily, with minimal investment in new equipment and people. Such a good may have a relatively steep downward slope on its LRAC curve. Other goods require substantial investment in new equipment in order to increase production. Those goods will have a flatter downward curve as a reflection of this greater expense.

The new camera costing more is an example of price discrimination. The company has set its prices specifically to discriminate against early adopters. The early adopters for electronic devices such as cameras are driven to purchase on non-price criteria, such as new features that have been introduced with the new version. As such, they have a low price elasticity of demand. Six months later, the remaining untapped market is less concerned with new features and is more price-conscious. With a higher price elasticity of demand, this group requires lower prices as an inducement to purchase. The camera firm is therefore exhibiting price discrimination against the early adopters specifically because they have lower price elasticity of demand.

Earlier this year, the Justice Department announced new guidelines for the evaluation of mergers. The rules threaten to increase the amount of challenges to new mergers, but they also address maverick firms that disrupt equilibrium to the benefit of the consumer, offering these firms greater protections from mergers. Another area of impact is that high margins may be used as evidence of price coordination among rivals or a lack of price elasticity of demand (ACC, 2010).

These changes will have a number of impacts. Increasing the number of challenges to mergers will create a disincentive to engage in mergers, in particular if in practice the percentage of mergers approved declines. The increased cost of mergers may also exceed the economic benefits, particularly if there are increased delays in the approvals process. This impacts the markets because it in theory affords consumers greater protection, ostensibly by lowering the threshold at which a merger is rejected.