Principles of Economics

Economics

There are a few different ways to implement a price discrimination strategy. One of the ways that this can be done is with a rewards program or loyalty club. This could provide slightly lower prices as an enticement for the townspeople to develop a long-term relationship with the shop, particularly in the summer months. Another method is to charge different prices based on the time of day, so perhaps late night prices are higher or lower to appeal to the student market. Seasonal price changes can also be a factor, for example summer sales to attract the town market or back to school specials to attract the student market.

In a normal market, a price cap would have little impact in the short-term since it is set at the equilibrium price. In the long-run, however, as costs increase more players will exit the industry. This will cause supply to drop, putting upward pressure on the price. With the price unable to move, the supply decline will be locked in. In a one-company example, the company will simply stop investing in service improvements and this could ultimately see a reduction in demand. The cable company, faced with a declining market and shrinking prices, would eventually have to either petition for the ceiling to be lifted or raised, or decide to exit this unprofitable business. This is illustrated in Appendix A.

In the second scenario, the new product would steal all of the market share from the existing product. It is cheaper than the existing option, but is superior. If customers are behaving rationally, they will switch to this product. In addition, demand for the second product will be higher than for the first product, because of its higher utility.

3. In a perfectly competitive market, if demand falls then the price will fall as well. Eventually, faced with overcapacity and declining profitability, some players will exit the market and it will find its new equilibrium point. If demand for the product rises, the price will rise as there will be a shortage of the product. Eventually, the higher price will bring in new competitors to the market as the industry is more profitable, allowing it to find a new equilibrium point. These graphs can be found in Appendix B.

4. On the downward side, the long-run average cost curve reflects the decline in average price as the company produces more goods. The steepness of this downward slide reflects the intensity of the advantage that economies of scale brings. This can be impacted by a number of factors, including the nature of production and the degree of efficiency in the production. To understand this, consider when the curve begins on the upside. At that point, the firm may need a new factory, increasing AC beyond a certain point of output; or other inefficiencies could emerge relating to the costs of managing a larger organization. Essentially, on the downside efficiencies are improving as the output nears capacity. When output hits capacity, the LRAC begins to move upwards again.

5. The new camera explain is part of price discrimination and there are three distinct factors at work when considering this form of price discrimination. The first is strictly marketing -- when new technology arrives in the marketplace the first buyers are typically early adopters. These are more driven by the technology than by the price, so they have low price sensitivity. Firms take advantage of this by charging more, to recoup more of their investment as early as possible.

The second reason is that during the market entry phase, the average cost of production is high. As the camera becomes more popular, and sells more units, the average of cost of production will decrease. This allows the company to sell the camera at increasingly low prices. The third is related to competition. Initially, the product has a high degree of differentiation that effectively creates a monopoly for the product. There are no others like it, so the firm can charge monopoly rents. As the technology is imitated by competitors, the firm no longer can charge monopoly rents; the market shifts into monopolistic competition and the firm must lower its prices accordingly. It is for each of these reasons that the price discrimination exists.