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Pricing Policy. IMBA Managerial Economics Jack Wu. Northwest Airlines Minneapolis-New York. Emirates Airline, Dubai-Mumbai, Economy class, May 2004. Emirates Airline, Mumbai-Dubai, Economy class, May 2004. Emirates Airline.
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Pricing Policy IMBA Managerial Economics Jack Wu
Emirates Airline • Why does Emirates charge lower fare for passengers originating from Mumbai? • How is this discrimination possible?
Pricing Policy • uniform pricing • complete price discrimination • direct segment discrimination • indirect segment discrimination • bundling
UNIFORM PRICING 80 Price (Thousand Yen per unit) 55 marginal cost 30 demand marginal revenue 0 2500 5000 Quantity (Units a year)
Uniform Pricing: Profit Maximum • MR = MC • Equivalently, set the incremental margin percentage equal to the inverse of absolute value of price elasticity of demand, (price - MC) / price = -1/e
Price Elasticity • always set price so that demand is elastic • if demand more elastic, then lower incremental margin percentage (IM%) e = -2 IM% = 1/2 • e = -1.5 IM% = 2/3
Pricing Private-Label Cola Suppose that WalMart learns that demand for private-label cola is less elastic than the demand for Coca Cola. Should WalMart set a higher price for private-label cola?
potential buyers $ buyer surplus price marginal cost 0 quantity Uniform Pricing: Shortcomings • leaves buyers with a lot of surplus • does not sell to every potential buyer
Complete Price Discrimination • price each unit at buyer’s benefit and sell quantity where MB = MC • maximum profit -- theoretical ideal • different from MR = MC • implementation: must know entire marginal benefit and marginal cost curves
Complete Price Discrimination: Practice • bargaining • auctions
Direct Segment Discrimination, I • price by segment • implementation • fixed identifiable characteristic --- basic for segmentation • no re-sale
Direct Segment Discrimination, II simple case: uniform price within each segment • within each segment IM% = -1/e • for segment with more elastic demand, then lower incremental margin percentage (IM%)
DIRECT SEGMENT DISCRIMINATION, III (a) Men’s demand (b) Women’s demand demand 80 Price (Thousand Yen per unit) Price (Thousand Yen per unit) 55 50 marginal revenue marginal cost 40 marg. cost 30 30 demand marginal revenue 0 2500 3000 0 1000 Quantity (Units a year) Quantity (Units a year)
NYNEX Telephone Service New York City • residential -- $16/month • business -- $23/month How is discrimination possible?
Asian Wall Street Journal • Why different prices for print edition but not interactive edition?
Indirect Segment Discrimination • structure choice to earn different incremental margins from each segment • implementation • seller controls some variable to which segments are differentially sensitive • buyers cannot circumvent the variable
Bundling • strategy • pure bundling • mixed bundling
Pure or Mixed Bundling What is the profit-maximizing pricing policy if • marginal cost per channel = 0 • marginal cost per channel = $5
Pure or Mixed Bundling • Generally, • if item is costless, no loss from giving it to every consumer --> pure bundling; • if item is costly, then should avoid providing it to low-benefit users --> use mixed bundling to screen out low-benefit users. • Mixed bundling is form of indirect segment discrimination • structured choice between bundle and separates
DISCUSSION QUESTION • (A)Suppose that the marginal cost of the cable company providing a channel to the household is 0. Will you provide all channels to all types of household from the efficiency perspective? What is your profit-maximizing pricing strategy? • (B)Suppose that the marginal cost of the cable company providing a channel to the household is 50. Will you provide all channels to all types of household from the efficiency perspective? What is your profit-maximizing pricing strategy?
