Types and Example of Price Discrimination and Criteria for Its Success

Understanding the Three Types of Price Discrimination

Explain the different types of price discrimination. Then identify a real-world example of price discrimination (preferably not one from the unit lesson), and explain which type of price discrimination it is. Next, using the good from your own chosen price discrimination as an example, illustrate how the good fits the criteria necessary for successful price discrimination. Finally, discuss how the price discrimination example leads to an increase in total benefit to society. Include in your discussion an evaluation of the effects on people paying the higher price and the effects on people paying the lower price. The above questions are what the class is responding to.   

Assignment:  Read the 3 short responses below.  They are all my classmates’ responses to the discussion board questions above.  Please reply to all 3 using the instructors’ directions.  And please mention the products/goods my classmates used in their responses.  Then reply with 1 substantive response paragraph.  Instructor’s directions: Follow these instructions when writing your response.  Note:  When responding to your peers, praise them for what they are doing well, and lend your own information and/or perspective to your peer's discussion response. (All of your responses within the discussion threads need to be no less than six or seven full sentences in length and pertain to the Discussion Board Question/Topic, in order to be eligible for participation credit).

The three types of price discrimination is first, second, and third- degree which explain how firms can change the prices of goods depending on certain circumstances. First degree discrimination or, perfect discrimination, is a firm charging the highest possible price the consumer is willing to buy the product.  Second degree discrimination includes allowing consumers the option to buy in bulk or a monthly/annual subscription. Third degree discrimination is charging different prices to benefit different groups of people. 

A home improvement store may charge the highest possible price of one box of nails for $8.99 but to buy three or more, each price unit price is $19.99 but people with that specific stores annual membership will pay $7.99 per box and $15.99 for a set of three. 

The benefit of firms charging the highest possible price for a product means their profit margin can exceed their cost margin. The consumers willing to pay the highest price are incentivized to sign up for the annual membership which would pay that discounted portion up front. For instance, if the annual fee for Bob's Equipment Store is $69 but the average annual savings is $100, the firm and the consumer wins. The consumer is net saving $31 but the firm is still making up for the difference by the non-members. Non-members may initially start buying the highest priced items because they don't believe they'll save more than the membership is worth. 

Examples of Price Discrimination in Real-World Scenarios

Consumers interested in the overall savings or the price per unit will opt in the annual subscription and those who are tasked with sporadic projects will spend more during those times of need. Also, if Bob's Equipment Store offers member exclusives and insiders, consumers are more likely to join. 

For example, I spend $25 annually on a Barnes & Nobles membership but I buy books from everywhere. If I'm suggested a good book, I will be more inclined to check if B&N has it in stock because my membership offers 10% off. However, if I really want it and it is not in stock, I will purchase it somewhere but B&N still profited off my small subscription.

Price discrimination falls into three different categories. First-degree/perfect price discrimination allows a company to charge each customer their maximum willingness to pay price. Second-degree price discrimination allows a company to offer discounts based on the amount purchased or frequent customer discounts. Third-degree price discrimination allows a company to set prices based on demographics or another group characteristic such as age, military and/or student status.

Poshmark is an online social marketplace where users can buy and/or sell new and secondhand styles to include clothing, shoes, home décor, pet items, etc. The seller sets the price for the item(s) they are trying to sell, while also allowing a potential buyer to “make an offer.” Poshmark is a prime example of first-degree price discrimination. First, it allows the seller to mark-up the prices in their ‘closet’ knowing the buyer will likely offer a lower price which the buyer can then choose to accept, decline, or counter. For example, if I list a pair of new shoes for $50, a slightly higher price than I originally paid, a potential buyer might offer what they would be willing to pay, $25. That is entirely too low for me to even make a profit, so I can counteroffer with $45 (or any other price I choose), plus shipping and handling.

Through this online marketplace, sellers can clear out their closet with items they no longer use while making a little extra money on the side. Buyers can shop ‘closets’ globally for items they like but at a discounted price. While some items have a larger price tag than others, by bargaining the consumer can get an item at a lower price. The producer or seller is still making a profit by selling an item they previously purchased. Even if the seller purchased the item at a higher price than they are selling it for, they are still making more money than they would have otherwise made throwing it out or leaving it in the closet untouched.

The Criteria for Successful Price Discrimination

Price discrimination means charging two different prices for the same amount of goods or services rendered. In a competitive market, price discrimination occurs when the same vendor sells identical goods and services at different prices. The supplier will charge the buyer the exact highest amount that he is prepared to pay under pure price discrimination. Companies employ price discrimination to extract the maximum profit from each customer. This enables the producer to capture a greater portion of the overall surplus by selling to consumers at prices that are closer to their maximal willingness to pay.

An example of first degree pricing discrimination would be a consumer going to a car dealership. Most consumers in search of a vehicle never expect to pay full price. The Manufactures Suggested Retail Price (MSRP) is just what it say, “Suggested” which alludes to there being wiggle room to come off of that price.An example of second degree price discrimination would be incentives that Amazon provide. Amazon offers a discount on shipping and handling as well as receiving your items faster based on the more you spend. Then they raise the stakes by offering a ‘Prime Membership’. For a monthly fee as a prime member, a consumer never has to pay shipping and handling, get all of their purchases as quickly as possible, have access to Amazon photos, Amazon music, and Amazon video at no additional charge. Non members have access to these incentives as well however, they must pay for them individually.

An example of third degree price discrimination would be a first responder discount. I am a first responder and a lot of restaurants in the state of Texas give discounts to first responders and some local restaurants allow us to eat free on certain days.An example of bundling would be package deals that AT&T offer. I am currently in a bundle deal that derives from the relationship that AT&T has with Direct TV. I pay one fee for high speed internet and cable at a discounted rate as opposed to paying for them separately at the maximum price.
Within commerce there are specific criteria that must be met in order for price discrimination to occur:
1. The firm must have market power
2. The firm must be able to recognize differences in demand.
3. The firm must have the ability to prevent arbitration, or resale of the product.
Amazon fits the description because it has the ultimate market power and relatively no competition Amazon meets the demands of consumers who are too busy and/or are willing to pay more for the convenience of not having to go into a store to shop.

Amazon issues goods to consumers who have purchased. Their business model can be duplicated however, it would make no sense for a company to order bulk from Amazon, pay for the delivery, and then have to package and pay for their own delivery again. This keeps enthusiasts from being able to duplicate Amazons blueprint on a large enough scale to be in competition.
The people who choose to pay for the Prime membership from amazon, like myself, use amazon a lot. Therefore, not wanting to pay shipping and handling is an incentive for me. Also the amenities that come with the membership are things that I use on a daily basis.The people who are willing to pay the shipping and handling on every purchase without the membership, probably do not use amazon as much and are not interested in getting their items faster or the other incentives that come with the membership.