Mostrando entradas con la etiqueta diferenciación de precios. Mostrar todas las entradas
Mostrando entradas con la etiqueta diferenciación de precios. Mostrar todas las entradas

domingo, 9 de julio de 2017

Discriminación de precios por género: ¿Es justo?

Batalla de los precios: ¿Es justo recargar a un género más?

Sobre la práctica común de cobrar más a las mujeres por los cortes de cabello y los hombres más por la admisión a ciertos clubes nocturnos




BOURREE LAM | The Atlantic


Recuerdo claramente un sábado por la tarde el año pasado cuando fui a cortarme el pelo con Kino Naoya, mi chico normal en el salón del centro en el lugar de San Marcos, que visito dos o tres veces al año. Un pequeño letrero colgó en el espejo de Kino: "A partir del próximo mes, a todos los clientes se les cobrará $ 70 por corte de pelo. Gracias."

Suspiré; Kino se había dado un bien merecido aumento del 25 por ciento. Pero entonces el economista en mí tomó nota: la discriminación de género en los precios no estaba más en la estación de Kino. Le pregunté por qué decidió abolir la práctica común de precios en los salones de belleza de la carga de las damas más que los chicos. Su respuesta fue que para él, todo tomó la misma cantidad de tiempo, unos 45 minutos. Y el tiempo de Kino era cada vez más caro, independientemente de si eras hombre o mujer.

Esto era inusual; Los salones parecen cargar siempre más para los cortes de pelo de las mujeres que para los hombres. Los economistas llaman a esta discriminación de precios: vender la misma cosa a dos personas diferentes a precios diferentes, porque uno de ellos está dispuesto a pagar más. Peluqueros, junto con manicuristas, tintorerías, vendedores de coches y seguros, y clubes nocturnos a menudo hacen esto. ¿Y por qué no? Si un grupo está dispuesto a pagar más que otro, cobrarles más tiene sentido comercial.


En algunos casos, puede haber una buena razón también, en que el servicio es realmente más caro para proporcionar a un grupo que a otro. Los peluqueros pueden tener la demanda legítima de cobrar a las mujeres más, pero sólo si sus recortes requieren más tiempo, habilidad o esfuerzo para un grupo más exigente de clientes. En Europa, las compañías de seguros acusaron a las mujeres de afirmar que debido a que las mujeres viven más tiempo no es el mismo producto -el Tribunal de Justicia Europeo falló contra esta práctica de precios, exigiendo que las compañías de seguros cobren a ambos sexos la misma cantidad. En los Estados Unidos, Obamacare requiere que los aseguradores de salud cobren a ambos sexos por igual. Hay mujeres en ambos lados de este argumento, debatiendo lo que significa un precio justo y equitativo.

¿Las mujeres siempre pagan más? No siempre.
La discriminación por género en los precios es ilegal en muchos estados, pero puede ser bastante difícil determinar cuándo dos productos son realmente iguales y cuándo son diferentes. Por ejemplo, el condado de Miami-Dade tiene ordenanzas que prohíben los precios de género para la limpieza en seco. El área gris es la siguiente: "Se permite a una empresa cobrar un precio diferente si los bienes o servicios implican más tiempo, dificultad o costo, es decir, se debe considerar la calidad y complejidad de los bienes o servicios para determinar si O no te han discriminado ".

El Departamento de Asuntos del Consumidor de la Ciudad de Nueva York (DCA) tiene ordenanzas más estrictas. Los términos de género inherentemente sesgados, como camisas y blusas, no son suficientes; los precios pueden diferenciarse para camisas con y sin volantes, pero no entre camisas y blusas. En los últimos años, la DCA de Nueva York ha reprimido las violaciones a los precios de género en la ciudad. Los inspectores patrullan las empresas con regularidad, y en 2012 entregaron 361 avisos. El año pasado hubo 195 violaciones, y el recuento de violaciones de este año ya supera los 200.


El economista y el profesor de la Facultad de Derecho de Yale, Ian Ayres, publicaron un estudio histórico en 1991 mostrando que las mujeres caucásicas reciben un recargo del 40 por ciento en comparación con los hombres caucásicos en los concesionarios de autos nuevos. Ayres dice que a partir de 2000, hay 43 estados que prohíben la discriminación de precios por género en los alojamientos públicos.

"No existe una ley federal general que prohíba la discriminación de precios por motivos de género", dice Ayres. "Existe la Unruh Act en California que es una cuestión de ley estatal, y hay un número cada vez mayor de estados y municipios que han prohibido la discriminación por género en las acomodaciones públicas".

¿Las mujeres siempre pagan más? No siempre. A menudo, las discotecas cobran menos a las mujeres por entrar, una práctica que ha prohibido California. Del mismo modo, los salones de uñas a menudo cobran más a los hombres que a las mujeres, según se informa debido a que los llamados manicure requieren más trabajo.

Al menos un par de hombres han hablado en contra de la noche de las señoras: el profesor de derecho de la GWU, John Banzhaf, y el abogado de Nueva York, Roy Den Hollander (que ha sido ridiculizado por sus comentarios sobre la razón por la que demandó: odia a las feministas).

Recientemente me di cuenta de que esta práctica sucede para entradas de fiestas y conciertos. El evento, el Afterparty oficial del Festival de Ciudadanos Globales, cobró $ 20 dólares adicionales por los hombres. (Estas prácticas están claramente diseñadas con una clientela heterosexual en mente.) El enlace de la entrada ya no lista los precios, pero aquí hay una captura de pantalla:



Christopher Sun, un asistente de conciertos de 27 años que trabaja en marketing, me dijo que aunque él sabe que es injusto, piensa que es mejor que no entrar en absoluto: "Quiero decir, seguro que es molesto que lo hagan así. Pagar un adicional de $ 20 para garantizar la entrada es una opción mucho más atractiva que jugar ruleta rusa (portero) en la puerta y el riesgo de ser negado por completo ".

La amiga de Sun, Hailey Brooks, dice que es la primera vez que ve este tipo de precios: "Es un estándar doble bastante común en la vida nocturna, las chicas se meten en los clubes con más facilidad y en ocasiones no tienen que pagar cobertura ni conseguir boletos gratuitos para beber. , Esta fue la primera vez que había visto los precios de los boletos ajustados por sexo Me siento mal por mis amigos chicos que pagaría más, y sólo se presenta como una idea de venta de boletos muy anticuado, y no parece encajar con EDM muestra en general."

"Es un mal necesario", dice Sun. "Si le preguntas a tu compañero promedio, nueve veces de cada 10, dirán que no les importa pagar un poco más ($ 5-20) si garantiza una pista de baile llena de chicas y / o una buena proporción".

Vale la pena preguntar si la datación, o cualquier otro propósito, realmente justifica la discriminación por género.
Los clubes parecen estar de acuerdo. Alcancé a Marquee, uno de los nombres más rentables en el negocio del club nocturno. El club es tan exitoso que fue el tema de un estudio de Harvard Business School. Las fachadas de Nueva York imponen de $ 0 a $ 10 más por boletos masculinos. Un portavoz del club envió esta declaración:

Usamos la preventa como una forma de dar a los fans de estos DJs la mejor experiencia posible. Los precios de los boletos comienzan bajo para asegurarse de que hay verdaderos fans en la sala, los fans que comprarán meses de antelación. Esas son las personas que llevan la energía durante toda la noche en la pista de baile y es importante que estén presentes. La fiesta se alimenta de esa energía y produce una gran atmósfera dentro del club. Buscamos fomentar la igualdad de asistencia de género en nuestros lugares.
Ayres lo expresa de esta manera: "Estas [precio] las diferencias están tratando de equilibrio de género los eventos para fines de citas". Ayres dice que con los productos básicos -como su estudio donde se vendían automóviles nuevos a hombres y mujeres a precios diferentes- es un "error claro". Aunque dice que en el caso de los clubes que cobran precios diferentes, vale la pena preguntar si la fecha, o cualquier otro propósito, realmente justifica la discriminación por género.

Si bien algunas mujeres y hombres tal vez deseen mantenerse en arreglos que les beneficien, ya sea la noche de las damas o coches más baratos y seguros, en última instancia, mantenerse alejado de lugares que el precio de género discriminan en cualquier dirección es lo que se siente bien para mí. Sólo pienso en lo exasperante que es cuando una tintorería quiere cobrar más porque soy una mujer, y es suficiente para que me dé esa bebida gratis en la noche de las damas.

sábado, 31 de octubre de 2015

Cazadores de precios porteños

Cazadores de precios: vecinos que viajan por los barrios para hacer las compras
En auto o en colectivo, hacen largos recorridos para conseguir carne en Mataderos, fiambres en Almagro y especias en Liniers
Josefina Marcuzzi
LA NACION



Alejandra espera con paciencia su turno en la carnicería, en la esquina de Lisandro de la Torre y Alberdi, en Mataderos. Tres veces por mes viaja desde Flores para comprar carne, pollo y cerdo; luego lo pone en el freezer y, cuenta, se ahorra cerca de un 30% del total.

Miles de porteños de todos los barrios viajan durante 40 o 50 minutos para hacer las comprar en los sitios donde encuentran calidad y precio, una combinación perfecta que sólo está en algunos barrios. Por ejemplo, la carne del mes se consigue en Mataderos; la mejor opción de legumbres, especias y condimentos está en Liniers. Si se trata de fiambres y embutidos, el lugar recomendado para ir es Corrientes 3876, en el corazón de Almagro, entre otras opciones. También, muchos se suben a un colectivo o a su propio auto en busca de las mejores frutas y verduras en el Mercado Central, en el conurbano bonaerense, que pronto abrirá una sucursal en Colegiales.


Los sábados por la mañana es el día para hacer las compras; muchos invierten algunas horas para movilizarse y conseguir buena carne, por ejemplo, a un precio saludable para el bolsillo. Sobre la avenida Lisandro de la Torre varias carnicerías compiten por captar clientes, y las opciones son realmente tentadoras: los precios son un 30% más económicos que en cualquier carnicería de la ciudad. Ofertas de asado a $ 55 el kilo, vacío a $ 65 el kilo y milanesas a $ 65 el kilo. Y los vecinos hacen cola para llevarse la mercadería.

"Nosotros venimos a comprar desde Palermo porque nos ahorramos, como mínimo $ 30 por kilo de carne. Normalmente venimos dos o tres veces por mes, en auto, y congelamos la comida. Realmente vale la pena hacer el viaje", cuentan Néstor y Damián, padre e hijo, que viven en la zona del Jardín Botánico, en Palermo.


En la esquina de Lisandro de la Torre y Alberdi la carnicería Chalin convoca a colas y colas de gente que espera para llevarse los mejores cortes, como "cuadrada" a $ 75 el kilo. "Ahorrás plata, incluso, comparando con los grandes supermercados: yo soy de la zona y en estas carnicerías podés gastar hasta el 50% menos que en cualquier otro barrio de la ciudad", asegura Alejandra, una vecina que vive hace 30 años en Mataderos.

Otros miles de porteños optan por la zona oeste para encontrar las mejores legumbres, especias y condimentos: en José León Suárez al 100, en Liniers, la comunidad boliviana y peruana ofrece muy buenos precios en estas provisiones básicas para las familias. Aquí, Edith Mejías recorre los locales junto a Andrea Romano; la primera viene de Flores, la segunda es de Liniers. El olor a especias flota en el aire y los locales se intercalan con comercios de zapatos, ropa y juguetes. "Acá conseguís una bolsita de azúcar impalpable a $ 24. Y en cualquier dietética de la Capital la encontrás a $ 36", cuenta la vecina de Flores. En Liniers hay que caminar y saber elegir, pero es posible hallar esencias a $ 15 el kilo, azafrán a $ 16 el kilo y porotos aduki a $ 22 el kilo.


"Recibimos gente de todos lados, sobre todo los sábados; vienen de Palermo, Belgrano, Recoleta, Villa Crespo. Tenemos mucha variedad a precios muy accesibles", explica Sebastián, un empleado, mientras pesa una bolsita de pimienta.

"Yo compro legumbres y especias; los productos son los mejores de Buenos Aires y los precios son muy buenos. Vale la pena el viaje", cuenta Adriana, que vive en Colegiales y se moviliza en tren hasta Liniers, dos veces por mes. Para elegir frutas y verduras, dice, no hay mucha opción más que las verdulerías de barrio. Al menos por ahora.

Otras opciones


Los porteños que deciden ahorrar en la compra de hortalizas deben cruzar toda la ciudad para ir al Mercado Central, en Tapiales, o bien comprar a través de la página web que ofrece el servicio de envío a domicilio. Sin embargo, apenas se labren los oficios judiciales necesarios, abrirá una sucursal en Colegiales, en Crámer 475.

Los vecinos porteños pueden conseguir cebolla a $ 20 el kilo, un 25% menos que en cualquier verdulería de la ciudad; el tomate está disponible a $ 22 el kilo e incluso los lácteos cuestan un 30% menos que en los supermercados de barrio.

Para conseguir excelentes precios en fiambres y embutidos, además de calidad, el lugar es una pequeña boutique situada en Corrientes 3876, en Almagro. Allí, vecinos de Boedo, Parque Chacabuco y Caballito llevan pastrón ahumado por $ 28 los 100 gramos, y jamón crudo a las finas hierbas por $ 27 los 100 gramos, entre otros excelentes productos y muy buenos precios.

Para completar el recorrido y tener la mesa familiar lista, quedará darse una vuelta por el tradicional Barrio Chino, en pleno Belgrano. La zona se ha vuelto un polo por excelencia de variedad de pescados, a donde miles de porteños se acercan por la cantidad de opciones y los precios recomendados.

Ofertas tentadoras


$ 55
el kilo de asado

Es lo que cuesta en las carnicerías de Mataderos. En cambio, en Núñez el mismo corte trepa al doble

$ 16
el kilo de azafrán

Es lo que vale en los locales de especias y legumbres en el barrio de Liniers

lunes, 3 de junio de 2013

Determimando el precio óptimo usando ecuaciones de demanda, ingreso y costo

Determining the Optimal Selling Price Using Demand, Revenue, and Cost Equations

Even though Joan is an economist, her knowledge of the market for jewelry boxes was based on experience and insight. She understands the market because she has bought and sold jewelry boxes and their raw materials and she has built them from scratch. Joan decided she should put some of her economics training to work and determine the ideal price and quantity to sell that would generate the most profit.
The typical demand curve has the price on the y-axis and the quantity demanded on the x-axis and is downward-sloping. [1] A demand curve can be represented as a linear mathematical formula with quantity as the dependent variable (q = −5p + 400) or with price as the dependent variable (= −5+ 80). A demand curve is a very useful diagram for describing the relationship between the price level and the quantity demanded at each price level. In general, as the price of a product increases, the demand for the good decreases. Similarly, as the price of a product decreases, the demand for the good increases. This section discusses how the demand curve can be used to identify the optimal price and quantity for selling just one version of a product.
Since Joan is a near-monopoly working in a market characterized by monopolistic competition, she can set her variable costs and fixed costs within certain limits related to the features she has established for her Jewelry boxes. Joan used algebra to come up with the optimal selling price for her standard jewelry box. This is the price that generates the greatest profit given the $15 variable costs and the $2,000 fixed costs.
Her first task was to develop a demand equation. The demand equation relates the quantity of the good demanded by consumers to the price of the good. Demand equations are in the form: Price = constant + slope*Quantity. This can be calculated by finding the slope of the curve using any two points (see Figure 3.9 "Two Points Are Used to Derive the Demand Curve"). We will use the points (q1, p1) or (100, $60) and (q2, p2) or (200, $40). The slope is the rise over the run or:
Slope = (60 − 40)/(100 − 200)Slope = 20/−100Slope = −0.2
The constant is calculated by determining where the demand line crosses the y-axis or, in this situation, the price or P-axis. This is accomplished by using the point slope form of the demand equation and any point such as (100, $60). The resulting constant is 80.
p − p1 = slope(q − q1)p − 60 = −0.2(q − 100)p = 60 + 0.2q + 20p = 80 − 0.2q
Figure 3.9 Two Points Are Used to Derive the Demand Curve
In many instances, the demand curve is expressed in terms of p because the price determines the amount demanded. You can just substitute a price into the following formula and find out how many units will be sold.
q = −5p + 400
So if Joan decides to price each box at $50, then she will be able to sell 150 units.
Now that the demand equation has been found (p = −0.2q + 80 or q = −5p + 400), Joan’s next step was to determine the quantity where profits are maximized. This is accomplished by identifying where marginal revenue equals marginal cost. This is completed in two steps. The first step is to substitute the demand curve equation into the total revenue equation in order to get the total revenue calculation in terms of the quantity sold or q.
p = 80 − 0.2qTotal revenue = × qTotal revenue = (80 − 0.2q) × qTotal revenue = 80q − 0.2q2
The above equation can be used to express the total revenue as a function of the quantity produced. We can check this answer by substituting 200 into the total revenue equation. For example, the total revenue when production is 200 units would be 80 × 200 − 0.2 × 2002 or $8,000. This is the same value for total revenue using the × q equation for total revenue ($40 × 200 = $8,000).
The second step is to find the quantity where marginal cost equals marginal revenue. This is accomplished by taking the first derivative of the total revenue equation with respect to q. This is then set to the marginal cost and then solved for q. The marginal cost is actually the variable cost in this example. The marginal cost to produce one additional jewelry box is $15.
Total revenue = 80q − 0.2q2Marginal revenue = dtr/dq = 80 − 0.4qMarginal revenue = Marginal cost80 − 0.4q = 15−0.4q = −65q = 162.5
The 162.5 quantity is rounded up to 163 and then substituted into the p = 80 − 0.2equation.
p = 80 − 0.2(163)p = 47.4
The 47.4 price was rounded down to $47. This is the short-term optimal revenue solution.
Profit = $47 × 163 − $15 × 163 − $2,000Profit = $3,216
Joan decided after her analysis to produce fewer jewelry boxes since she could make more money selling fewer boxes at a higher price. She could have done a similar analysis using spreadsheet software and come up with a similar solution. She would, however, still need the original demand function along with an understanding of her variable and fixed costs to produce the jewelry boxes.

Optimal Solution for Three Versions of Jewelry Box

The demand dashboard can also be used to determine the optimum solution when there are three jewelry boxes. The optimum solution is calculated using a mathematical programming algorithm that is usually referred to as a solver add-on in spreadsheet programs (see Figure 3.10 "Optimal Profit with Three Versions of Jewelry Boxes"). The solver essentially identifies the price for the Athena, the Stryker, and the Natural that would maximize profit with all the other variables such as the variable costs remaining the same.
As you can see from Figure 3.10 "Optimal Profit with Three Versions of Jewelry Boxes", the optimal Athena price would be $76.25 and about 19 units would be sold. The optimal price for the Stryker would be $57.50 and about 94 units would be sold. The Natural would be priced at $33.75 and would sell 119 units. The net profit for all three versions would be $5,672. This is in contrast to the non-optimized solution of $4,500. Joan just picked prices for each version using her intuition and insight into what consumers would be willing to pay.
Figure 3.10 Optimal Profit with Three Versions of Jewelry Boxes
You should note that the optimal solution for only having the Atlas product is $3,281. This is little different than the $3,216 solution obtained using the algebraic solution detailed in the last section because we rounded the price and quantity in the algebraic solution.
The optimal solution provides insight into the demand curve and the product mix, but it is not a magic potion for setting prices and developing versions. There are a number of factors that go into identifying the price and the characteristics for each version. There might be significant setup costs for constructing the Athena or, perhaps, it would be difficult to find artistically talented employees to work on the fake pearl inlays for just a couple of hours. Perhaps Joan does not want to focus on the Natural because she wants to eventually focus on upscale jewelry boxes and she is concerned that her product would not be considered a high-end offering because of the proliferation of inexpensive jewelry boxes. And, of course, it is very difficult to actually know if the demand curve is valid for all levels of prices.

Linear and Nonlinear Demand Curves

The demand curve for a good does not have to be linear or straight. As illustrated in Figure 3.11 "Nonlinear Demand Curve for Joan's Jewelry Boxes", the demand curve could be curvilinear. It appears that the price at which there is no demand is $80 and that there is essentially unlimited demand for jewelry boxes that cost $15. Let us examine how a different and, in particular, a nonlinear curve could influence the amount of revenues generated. UsingFigure 3.11 "Nonlinear Demand Curve for Joan's Jewelry Boxes", if Joan charges $60 for the Athena unit, she would sell 50 units. If she charged $40 for the Stryker model, she would sell 50 units (100 − 50). If she charged $20 for the Natural, she would sell 150 units (250 − 100). If Joan still had the same variable cost structure as before, she would generate the following revenues and profit:
Profit = ($60 − $30) × 50 + ($40 − $15) × 50 + ($20 − $10) × 150 − $2,000 ← {fixed costs}Profit = $1,500 + $1,500 + $1,500 − $2,000Profit = $4,500 − $2,000Profit = $2,500
Figure 3.11 Nonlinear Demand Curve for Joan's Jewelry Boxes
This amount is noticeably less than the $3,216 algebraic solution ($47 × 163 − $15 × 163 − $2,000) for the single version where it was assumed that demand was linear. This example illustrates that a slight miss in identifying the appropriate demand function can have a dramatic impact on profitability. Even though the demand and differentiation dashboards can only deal with linear relationships, we can estimate a linear function using only a portion of the demand curve. It appears that there is a linear relationship within the price range of $20–$80. The price where demand is zero (the Y intercept) and the slope of the demand curve were both estimated using the demand analysis dashboard as illustrated in Figure 3.12 "Demand Curve for Nonlinear Estimation"Figure 3.13 "Joan's Profit Using Estimates of Nonlinear Demand"shows the solution for the nonlinear demand curve using the differentiation dashboard. The key difference for this solution versus the solution that was presented earlier in the chapter is that the demand curve was estimated using points that were not linear with a linear regression algorithm. This leads to several interesting results.
Figure 3.12 Demand Curve for Nonlinear Estimation
Figure 3.13 Joan's Profit Using Estimates of Nonlinear Demand
The profit for one product using the optimal solution for the nonlinear curve is $1,415.69. Using Figure 3.13 "Joan's Profit Using Estimates of Nonlinear Demand", again you can see that when the original variable and fixed costs are entered in the differentiation dashboard, three versions produce a net profit of $2,458. This is in contrast to the $4,500 profit for the three versions using the original linear demand curve.
When the demand is nonlinear, economists use “tricks” to transform a nonlinear demand data into a linear formula. [2] For example, they take the natural log of the price and quantity data and then perform the regression analysis in order to develop an estimate of the function. The trick I used was to estimate the demand function by only using prices between $20 and $80.
If a new product is being introduced, then there may not be any data available for estimating a demand curve. Historical data are often scarce or nonexistent for new products and significantly revised versions of products. Sometimes, the entrepreneur has only two points for estimating demand. The first point is where the price crosses the Y-axis. This is essentially the maximum amount that most consumers would be willing-to-pay for a product. The second point is also a guestimate using a hypothetical question. What demand would result if we were to introduce a product at the prevailing market price using typical product features?
The key takeaway is that it is difficult to model consumer demand when products are new and untested, and even where there is a proliferation of historical data, it is still a difficult task. Another takeaway is that versioning will almost always generate more revenues and also greater profits in the long run. The crucial activity is to constantly experiment and continuously introduce product versions in order to understand the constantly changing nature of consumer behavior. Quantitative tools can provide insight, but they should be used to provide insight and not used as a sole solution for pricing and versioning products.
From an economist point of view, the primary goal of versioning is to capture consumer surplus. As one of my economist colleagues (Bill Hamlen) noted, it is very difficult to develop a reasonable mathematically grand optimal solution for capturing consumer surplus with even two versions. Economists have not attempted to tackle the problem of versioning because of the mathematical complexity. I have taken the liberty of using the same demand curve for all the versions. In reality, there is a separate demand curve for each version. Bill Hamlen suggested that since it is so difficult to find a grand optimal solution, that I should continue the approach used in the book because it still provides an insight into the important issue of capturing consumer surplus from a strategy perspective.
© 2013 by Flat World Knowledge, Inc. Terms of Use

[1] See the following Web site for a good discussion of the Law of Demand:http://www.investopedia.com/terms/l/lawofdemand.asp
[2] Oz Shy (2008).


domingo, 2 de junio de 2013

Diferenciación de precios y eficiencia

First Monday

Abstract:
La receta clásica para el precio económicamente eficiente --- fijar el precio al costo marginal --- no es relevante para las tecnologías que presentan tipos de rendimientos crecientes a escala, grandes costos fijos, o economías de alcance que se encuentran en las industrias de telecomunicaciones y de información. El principio rector apropiado en estos contextos debe ser que la disposición marginal a pagar debe ser igual al costo marginal. Esta condición de la eficiencia se puede aproximar utilizando precios diferenciales, y de hecho, ser un resultado natural de la conducta con fines de lucro.

introduction
Recent advances in information technology have rekindled interest in the efficiency of markets as resource allocation mechanisms. Traditional economic analysis typically examines situations where the prevalent technology involves no economies of scope and constant or decreasing returns to scale. In such industries the conventional wisdom "set prices at marginal cost" is both economically viable and the likely outcome of competitive forces.
However, many important industries involve technologies that exhibit increasing returns to scale, large fixed and sunk costs, and significant economies of scope. Two important examples of such industries aretelecommunications services and information services. In each of these cases the relevant technologies involve high fixed costs, significant joint costs and low, or even zero, marginal costs [1]. Setting prices equal to marginal cost will generally not recoup sufficient revenue to cover the fixed costs and the standard economic recommendation of "price at marginal cost" is not economically viable. Some other mechanism for achieving efficient allocation of resources must be found.
This paper reviews some key points about how prices should be set in environments of this sort. I examine this question both from a positive and normative point of view. On the normative side I examine characteristics of efficient pricing; on the positive side, I examine the likely outcome of profit-seeking behavior in these environments.
The outcome of this investigation is that (i) efficient pricing in such environments will typically involve prices that differ across consumers and type of service; (ii) producers will want to engage in product and service differentiation in order for this differential pricing to be feasible; and, (iii) differential pricing will arise naturally as a result of profit seeking by firms. It follows that differential pricing can generally be expected to contribute to economic efficiency [2].

Review of the concept of efficiency
Economists say that an economic situation is (Pareto) efficient if there is no way to make one consumer better off without making some other consumer worse off. For many cases of interest, Pareto efficient outcomes can be thought of as those that maximize the sum of economic benefits minus costs [3].
Standard economic analysis can be used to derive the following principle.
Necessary condition for Pareto efficiency. A necessary condition for Pareto efficiency is that that themarginal willingness to pay must equal marginal cost.
In order to correctly understand the concept of efficiency, it is important to be clear about each of the italicized terms in this condition. First "necessary" means that the condition must hold if the situation is economically efficient, but the condition may hold in circumstances without implying that the situation is efficient. For example, forcing a firm to charge a price equal to marginal cost can easily fail to be efficient if such pricing fails to cover total costs; we present several examples of this phenomenon below.
Second, "marginal willingness to pay" refers to the willingness to pay for an incremental unit of the good and "marginal cost" refers to the cost of providing an incremental unit of the good. Once these terms are understood, it is not hard to see why efficiency requires that marginal willingness to pay must equal marginal cost. If any consumer valued an additional unit of the good at more than it cost to produce that unit, then it is possible to make that consumer better off by producing an extra unit of the good and selling it to that consumer at some (consumer-specific) price greater than or equal to the cost of producing the incremental unit. Such a transaction would make the consumer in question better off without making anyone else worse off, showing that the original configuration was not Pareto efficient.
If consumers pay a constant price for each unit of the good that they consume, then it follows that that price must be equal to marginal cost. On the other hand, there is nothing inherent in these principles that says the price must be constant---nonlinear prices are very common in the real world. Efficient pricing only requires that the marginal unit of the good must be sold at marginal cost---not that every unit of the good be sold at marginal cost.
To see this, consider the simple example of a technology of a single-product firm that exhibits constant marginal cost and positive fixed cost. In this case setting price equal to marginal cost is not economically viable since such a price would not recover fixed costs. However, nonlinear pricing may well be viable: for example charging users a positive access fee (to recover the fixed costs) and a constant marginal cost of usage (to recover the variable costs) can easily be efficient in this context.
It should be pointed out that this particular example is very simple. In particular, we have assumed that the firm produces only a single product. If the firm in question produces several products, a more complex analysis is called for. But the central point remains valid: marginal cost pricing does not imply efficiency since there is no guarantee that revenues will be sufficient to cover total costs.

Differential pricing
Let us consider this example in more detail. Suppose that there are two classes of consumers for a particular telecommunications service: those with a high willingness to pay and those with a low willingness to pay. The telecommunication service in question exhibits a technology with high fixed costs (of, e.g., building and maintaining a network), but low marginal costs (of, e.g., providing additional service to existing customers).
In this case, the two-part tariff described above is a very natural pricing scheme. Consumers are charged an attachment fee to connect to the network; the revenue from these attachment fees are used to cover the fixed costs of providing the service, while the price of usage itself is pegged to incremental cost. The attachment fee is set so that the firm's total cost is recovered and the necessary condition for Pareto efficiency is satisfied.
It should be emphasized that this is not the only form of efficient pricing in this framework; one could use other forms of nonlinear pricing. The basic requirement that efficiency imposes is the one alluded to above: the marginal willingness to pay must equal marginal cost.

Marginal cost pricing may not yield efficient outcomes
The above analysis, simple though it is, yields an important insight: The characteristics of consumer demand are an integral part of efficiency judgments. Whether or not a particular policy is efficient cannot be based on cost considerations alone.
Pricing at marginal cost may or may not be efficient: it depends on how the consumers' total willingness-to-pay relates to the total cost of providing the good. To see this, consider the following simple example. Consumer A is willing to pay $10 for a single unit of a good, and consumer B is willing to pay $5. There is a zero marginal cost of producing multiple units of the good, but there is a fixed cost of $10. In this case, total benefits are $15 and total costs are $10, so it is socially worthwhile to produce the good.
There are a variety of ways to recover the fixed cost: each consumer could pay $5, consumer A could pay $10 and consumer B could pay nothing, etc. The only requirement is that consumer A pays no more than $10 and that consumer B pays no more than $5---otherwise they would not be willing to purchase the good.
On the other hand, suppose that the fixed cost of producing the good were $20. In this case, the total benefits from producing the good are $15 and the total costs are $20. There is no way to allocate the good (and the cost of producing it) to the two consumers in a way that makes them both better off than they would be if the good were not produced at all.
This is simply another way of illustrating the point made earlier: efficiency requires that the marginal user face marginal cost, but making all users face a constant price equal to marginal cost can easily fail to be efficient.

Losses due to marginal price exceeding marginal cost
The requirement that the marginal user pay marginal cost is a strong one, especially in cases where the marginal cost of usage is close to zero. One prominent example is information goods: the incremental cost of stamping out another CD or printing another book is on the order of a dollar. The incremental cost of downloading a purely digital good, such as a computer program, is on the order of a few cents at most. In these cases, efficient pricing of such goods would require that users with a very low value for such goods pay a very low price.
One might think that it is rare to observe information goods selling for virtually nothing, but on reflection, this is not so uncommon. Many information goods are supported by advertising and sell for prices close to their marginal cost of production and delivery: newspapers and magazines are obvious examples. Books sell for a high price as hardbacks, and much lower prices when reissued as paperbacks. Remaindered books sell for very little. And all sorts of printed material---books, magazines, newspapers, etc.---are available in libraries at effectively zero cost to the users. In addition, there are thousands of shareware computer programs that sell for extremely low prices---on the order of a few dollars.
Similarly, there are telecommunications policies that involve selling services at very low prices. Lifeline rates are a good example. With such plans, needy consumers (who are likely to have a low willingness to pay) can receive telephone services for only a few dollars per month.
Still, a few dollars is still more than a marginal cost of zero. One may well ask how significant a violation of efficiency is involved when marginal users facing a price that is slightly above marginal cost. This question can be answered using the tool of consumer surplus. Consider Figure 1, which illustrates a demand curve for a good; we assume a marginal cost of production of zero. We imagine a nonlinear pricing scheme which collects different fees from different users; we've also illustrated the revenue collected from the consumers in the diagram.
Figure 1:   Efficiency loss.
The black triangle illustrates the efficiency loss from non-marginal cost pricing.
Efficient pricing requires that the marginal user face a marginal price of zero; in the case illustrated, the marginal price is greater than zero, so some users who have positive value for the good choose not to purchase it at that (marginal) price. The aggregate consumers' surplus is less than the maximum possible amount. But how much is this loss? The value of the lost output is simply the area indicated by the black triangle in the diagram: this area the total amount the excluded consumers would have been willing to pay for the good. This triangle represents the value of the transactions that did not take place because the marginal price exceeds marginal cost. However, note that if the marginal price is quite low, the loss from not setting it precisely at zero is also very low. It is at most the marginal price times the number of people who value the good at less than that price. If the marginal price is quite small, the losses from the fact that it exceeds marginal cost will also generally be quite small.

Profit seeking firms and differential pricing
We have seen that efficient pricing requires that the marginal willingness-to-pay equals marginal cost, but that differential and/or nonlinear pricing will typically be required for full efficiency when the underlying technologies have significant fixed costs. We now consider conditions under which profit-seeking firms will have an incentive to price in efficient ways.
The first observation is a simple one: if marginal willingness to pay exceeds marginal cost, there is an obvious incentive for a profit-seeking firm to supply the good at some price between the willingness-to-pay and the marginal cost of provision, thereby increasing its profits. In the extreme case described above, where the marginal cost of provision is zero, a profit-maximizing producer would want to supply the good to everyone who had a positive willingness to pay for the good, no matter how low!
Recall the definition of Pareto efficiency: this is a situation where there is no way to make one person better off without making someone else worse off. If someone values an additional unit of a good at more than its marginal cost, this is inefficient. But this is also a profit opportunity: a producer would find it profitable to provide an incremental unit of the good to anyone who valued it at more than its marginal cost. Thus, the profit motive tends to correct an inefficiency of this sort.
What is it that stands in the way of such mutual Pareto improvements? The problem is that the firm would not want to offer the good at a low price to marginal customers when such an offering would have an adverse effect on the firm's ability to sell to inframarginal customers. That is, selling an incremental unit at more than marginal cost increases profits in the first instance. It is is only when such a sale reduces profits made on the units sold to other consumers, that the firm may wish to forgo this profit opportunity.
To understand this point more deeply let us review the basic microeconomics of price differentiation. Economists generally follow the taxonomy of Pigou, who used the term price discrimination to describe what we have been referring to as differential pricing. Pigou described three different forms of price differentiation [4]:
  • First-degree price discrimination means that the producer sells different units of output for different prices and these prices may differ from person to person. This is sometimes known as the case of perfect price discrimination.
  • Second-degree price discrimination means that the producer sells different units of output for different prices, but every individual who buys the same amount of the good pays the same price. Thus prices depend on the amount of the good purchased, but not on who does the purchasing. A common example of this sort of pricing is volume discounts.
  • Third-degree price discrimination occurs when the producer sells output to different people for different prices, but every unit of output sold to a given person sells for the same price. This is the most common form of price discrimination, and examples include senior citizens' discounts, student discounts, and so on.

First-degree price discrimination
Under first-degree price discrimination, or perfect price discrimination, each unit of the good is sold to the individual who values it most highly, at the maximum price that this individual is willing to pay for it. If the producer has sufficient information to determine the maximum willingness to pay for each consumer, it will be able to extract the entire consumer surplus from the market.
Since the producer gets all the surplus in the market, it wants to make sure that the surplus is as large as possible. Put another way, the producer's goal is to maximize its profits (producer's surplus) subject to the constraint that the consumers are just willing to purchase the amount of the good or service it provides. This means that the outcome will be Pareto efficient, since there will be no way to make both the consumers and the producer better off: the producer's profit can't be increased, since it is already the maximal possible profit, and the consumers' surplus can't be increased without reducing the profit of the producer.
This, in turn, implies that a perfectly price-discriminating producer must produce at an output level where marginal willingness to pay equals marginal cost: if the marginal willingness to pay were greater than marginal cost, that would mean that there is someone who is willing to pay more than it costs to produce an extra unit of output. So why not produce that extra unit and sell it to that person at his or her reservation price, and thus increase profits?
Just as in the case of a competitive market, the sum of producer's and consumers' surpluses is maximized. However, in the case of perfect price discrimination the producer ends up getting all the surplus generated in the market.
Perfect price discrimination is an idealized concept; in order to engage in perfect price discrimination a producer must know the willingnesses-to-pay of its customers and be able to prevent resale. Both of these requirements are difficult to realize in practice and perfect price discrimination is not commonly observed in the real world. However, a close variant---second-degree price discrimination---is quite common.

The interpretation of full surplus extraction
It is important to understand the sense in which the producer who engages in first-degree price discrimination "extracts all the consumers' surplus" in the market. This is to be interpreted as the surplusabove and beyond the surplus that would accrue to the consumer if he or she had not participated in the market for this particular good or service. Even though consumers acquires no surplus in the particular market in question, they still be substantially better off that if they had not purchased the good at all.
To illustrate this point, let suppose that there are two consumers, A and B who are currently using a pay phone at the local grocery store. They each value this pay-phone service at $10 per month, and it costs them $8 per month to use it. Hence, the consumers each achieve a net surplus of $2 each.
Consumer A would be willing to pay up to $5 additional dollars per month for in-home service, while consumer B would be willing to pay up to $2 additional dollars per month for in-home service. Thus A's total value for in-home service is $15 (=10+5) and B's total value is $12 (=10+2). Suppose that it would cost $21 per month altogether to provide both of these consumers with in-home service.
If the telecommunications provider charged a price of $12 to each consumer for in-home service, consumer B would get zero surplus by purchasing in-house service, but $2 of surplus from using the pay phone. Hence he would continue to use the pay phone. Consumer A would get $3 = 15 - 12 of surplus from in-home service and $2 from the pay phone. Hence consumer A would choose in-home service. Unfortunatly, the $12 of revenue from this consumer would not be sufficient to cover the total costs of $21.
If the provider charged $10 per month, both consumers would purchase in-home service, but again the revenue raised would not succeed in covering the cost of providing that service.
However, if the provider charged user A $13 and user B $10, it would raise a revenue of $23, which would more than cover its costs of $21. Each consumer would get a surplus of $2, the difference between the total value of the service purchased, and how much he or she has to pay for it. Since the consumers would achieve the same surplus from in-home service as from the pay phone, they would be willing to purchase the in-home service at these prices.
In this case, the producer cannot extract the full surplus of consuming the service since there is a competititive alternative yielding a net surplus of $2. As always the pricing flexibility of the producer is limited by the competitive alternatives available. A perfectly price discriminating producer can only extract the surplus above that surplus provided by alternative suppliers. The surplus achievable via the competitive alternative puts a floor on the surplus the consumer ends up with.

Second-degree price discrimination
Second-degree price discrimination is also known as the case of nonlinear pricing, since it means that the price per unit of output is not constant but depends on how much one purchases. This form of price discrimination is commonly used by public utilities; for example, the price per unit of electricity often depends on how much is bought and the price of long-distance telephone service is lowest for the largest buyers. In other industries bulk discounts for large purchases are frequently available.
We saw that in the case of perfect price discrimination, the producer has to know the demand curves of the consumers; that is, the producer has to know the exact willingness to pay of each person. Even if the producer knows something about the statistical distribution of willingness to pay---for example, that college students are willing to pay less than yuppies for movie tickets---it might be hard to tell a yuppie from a college student when they are standing in line at the ticket booth.
Similarly, an airline ticket agent may know that business travelers are willing to pay more than tourists for their airplane tickets, but it is often difficult to tell whether a particular person is a business traveler or a tourist.
One way to get around this problem is to offer two different price-quantity packages in the market. One package will be targeted toward the high-demand person, the other package toward the low-demand person. It can often happen that the producer can construct price-quantity packages that will induce the consumers to choose the package meant for them; in economics jargon, the producer constructs price-quantity packages that give the consumers an incentive to self-select.
Under certain assumptions about the form of consumer demand, it can be show that the optimal thing for the producer to do is to offer the consumer with the highest demand an efficient amount of the good---that is the amount of the good where the willingness to pay for an incremental unit is equal to the incremental cost of providing that unit. The consumer with the lower demand is offered an inefficient amount of the good---he would be willing to pay more than the incremental cost for an additional unit of the good. The reason that the low-demand consumer is offered an inefficient amount of the good is to avoid making a price-quanitity combination that is too attractive to the consumer with high willingness to pay [5].
In practice, the producer often encourages this self-selection not by adjusting the quantity of the good, as in this example, but rather by adjusting the quality of the good. The earlier allusion to airline pricing provides a nice example. U.S. airlines normally offer two kinds of airline tickets. One kind has no restrictions: business travelers find these unrestricted fares attractive since their travel plans may change suddenly. The other fare involves several restrictions: the traveler must stay over a Saturday night, must buy the ticket 14 days in advance, and so on. The presence of these restrictions makes the ticket less attractive to business travelers---the travelers with high willingness to pay---but the restrictions are still acceptable to tourists. By and large, each type of traveler selects the fare class intended for him or her and the airline makes substantially more surplus than if it had to sell each ticket at a flat price.

Efficiency loss from second-degree price discrimination
We have seen that if a producer can identify users with different willingesses-to-pay, and charge them accordingly, there may be no efficiency loss at all: the producer would simply charge each user his or her maximum willingess to pay. Users with high willingnesses-to-pay would pay a high price; users with low willingness-to-pay would pay a low price, but everyone who valued the good at more than its marginal cost of production would be served.
If the producer cannot precisely identify the users, it may want to adjust the characteristics of the good being sold so that users self-select the product targeted for them. In this case, the resulting outcome may be less efficient than it would be if perfect price discrimination were possible. The efficiency cost is the value of the transactions that consumer A would like to consume, but is prevented from doing so by the producer since that would make too attractive a package for consumer B.
In the case of the airline example, this efficiency loss is the extra hassle of buying tickets 14 days in advance, staying over a Saturday night, etc. These sort of restrictions are of little direct benefit to the airline---their only purpose is to separate the low willingess-to-pay consumers from the high willingess-to-pay consumers.
Still second-degree price discrimination may well be more efficient than no price discrimation at all, since without such price discrimination the markets with low demand may not get served at all. Reducing the quality or quantity of the good offered to the market with the low willingness to pay may make them somewhat worse off due to the inconvenience cost. On the other hand, without such a device to segment the market, the producer may not want to servce the low-demand market.
The Saturday-night stay over is a small inconvenience for the tourist traveller, but a large inconvenience for the business traveller. If the airlines were not allowed to differentially price in this way, airline tickes would almost certainly be significantly larger, airline travel would be reduced, and welfare would likely be lower. This point is explored in detail in Deneckere and McAfee [1996], who show that price/quality discrimination of the sort described can easily make all parties to the transaction better off than if price discrimination were not possible.

Third-degree price discrimination
In third-degree price discrimination, the producer is able to identify different consumer groups who have different willingnesses to pay. This is a very common form of price discrimination: senior citizen discounts, student discounts, etc. are widely used. This form of price differentiation is often used in telecommunications industries: lifeline pricing, differential pricing for business and households, etc.
Is third-degree price discrimination generally a good thing or a bad thing? One way to answer this question is whether the presence of third-degree price discrimination increases or decreases total surplus. This question was first analyzed by Robinson [1933]; notable subsequent contributions were made by Schmalensee [1981], Varian [1985], and Schwartz [1990].
For simplicity we will assume that the good is provided at constant marginal cost, and that there are only two groups of consumers involved. We want to compare two scenarios: one where differential pricing is allowed, the other where it is not.
If differential pricing is not allowed the firm is required to sell to the two different groups at the same flat price p0. If differential pricing is allowed, the firm may charge two different prices to the two groups, p1and p2. It can be shown that the change in total welfare (consumer plus producer surplus, denoted by DW, that results from moving from uniform pricing to differentiated pricing is bounded by the following expression [6]:
(p0-c) [Dx1 + Dx2] > DW > (p1-c)Dx1 + (p2-c)Dx2
In this expression, Dx1 denotes the change in the demand for the good in market 1.
Some intuition for this expression may be found by examining Figure 2, which depicts the impact of a price change for a single good. The change in welfare from moving from p0 to p1 is given by the trapezoidal area. It is easily seen that this is bounded by the two rectanges (p1-c)Dx1 and (p2-c)Dx2. The complete analysis alluded to above shows that this same bound holds if there are many goods.
Figure 2: Welfare bounds. The trapezoid is the true change in consumer's surplus. It is bounded above and below by the two rectangles.

This bound has the following implication: the left-hand side of expression (1) shows that a necessarycondition for efficiency to increase when price differentiation is implemented is that total output increases. If output remains constant or decreases when price discrimination is allowed, total welfare must necessarily decline.
On the other hand, welfare may easily increase when price differentiation is allowed, as long as output increases significantly. The requirement is that the weighted change in output on the right-hand side of expression (1) is positive.
We can see how this works in Figure 3. Here we have illustrated two demand curves. Consumers in market 1 have a high willingness to pay, and consumers in market 2 have a low willingness to pay. If only uniform pricing is allowed, market 2 will not be served. However, if differential pricing is allowed, the firm will find it profitable to serve both markets.

Figure 3: Unserved markets. Without price discrimination, small niche markets may not be served.

This is a good example to keep in mind. Small, niche markets will generally not be well-served if the producer is required to charge a uniform price. In cases of this sort, differential pricing can provide very significant efficiency gains since it allows markets to be served that would otherwise not be served at all. Hausman and MacKie-Mason [1988] examine this point in some detail and describe some specific examples where it is relevant.

Welfare with price differentiation
Summing up our discussion of the welfare effects of price discrimination, we see that:
  • First-degree price discrimination yields a fully efficient outcome, in the sense of maximizing consumer plus producer surplus.
  • Second-degree price discrimination generally provides an efficient amount of the good to the largest consumers, but smaller consumers may receive inefficiently low amounts. Nevertheless, they will be better off than if they did not participate in the market. If differential pricing is not allowed, groups with small willingness to pay may not be served at all.
  • Third-degree price discrimination increases welfare when it encourages a sufficiently large increase in output. If output doesn't increase, total welfare will fall. As in the case of second-degree price discrimination, third-degree price discrimination is a good thing for niche markets that would not otherwise be served under a uniform pricing policy.
The general impression that follows from this discussion is if price differentiation allows more consumers to be served it will generally increase welfare. Volume discounts, for example, can be expected to generally enhance welfare. Market segmentation that allows markets to be served that would otherwise be neglected is also a case where overall welfare can be expected to be enhanced.
On the other hand, price differentiation that merely shuffles prices paid by pre-existing customer groups and that does not result in an increase in the number of customers served, or the amount that they consume, will tend to reduce overall welfare. The key issue is whether the output of goods and services is increased or decreased by differential pricing.

Differential pricing is common in industries with large fixed costs
We have examined the theory of differential pricing, but what about the facts? The evidence shows that differential pricing is ubiquitous in industries that exhibit large fixed or shared costs. This is true for industries that are highly concentrated and industries that are highly competitive.
  • Airlines The airline industry is highly competitive in many ways, yet it is common to see differential pricing practiced in a variety of forms. As we have seen airlines offer different types of consumers different fares (senior citizen discounts, major corporations, convention goers, etc.); they offer different classes of service (first class, business class, tourist class); they offer different sorts of restricted fares (advanced purchase, Saturday night stayovers, etc.)
  • Telecommunications The long-distance telecommunications market in the U.S. involves many different forms of differential pricing. Firms give quantity discounts to both large and small customers; charge business and individuals different rates; and offer calling plans that offer discounted rates based on individual characteristics and usage patterns.
  • Publishing A book which sells for $40 can be produced at a marginal cost of $2. This gap between price and marginal cost has led to a variety of forms of differential pricing. Book clubs, hardcover and paperback editions, and remaindered books are all examples of the ways that the product characteristics and adjusted to support differential pricing.
  • Lighthouses This example is rather interesting from a historial perspective. Economists have often used lighthouses as an example of a good that would be best provided as a public utility due to the difficulty of recovering costs. For our purposes, their interesting feature is that the cost of servicing incremental users is negligable. As Samuelson [1964] puts it "... it costs society zero extra costs to let one extra ship use the service; hence any ships discouraged from those waters ... will represent a social economic loss ... ." Coase [1974] examined historial record and found that privately financed lighthouses were provided in England for hundreds of years. Even more remarkably, the pricing arrangement they used was quite efficient: they charged on a sliding scale based on the number of voyages a trip took per year. After 6-10 trips per year, the incremental price for the services of the lighthouse was zero, just as efficiency requires.

Some markets may not be served without differential pricing

It is easy to construct examples where some consumers will not be served unless differential pricing is permitted; we have alluded to this in our discussion of "niche markets" earlier. Consider, for example a case with two consumers one of whom would pay $20 for a telecommunications service, and the other of whom would pay $5. For simplicity, assume that the marginal cost of providing the service is zero. If the firm supplying the service is required to sell at a uniform rate to both consumers, it would clearly find it most profitable to set a rate of $20.
If, however, the firm is able to price the product differently to both classes of consumers, it would find it most profitable to sell to the high-value user at a price of $20 and the low-value user at a price of $5.
This is yet another example of how flat pricing may have perverse consquences: forcing a producer to sell to everyone at the same price may sound like a good idea. But it can easily end up encouraging the producer to sell only to the high end of the market. Differential pricing gives the producer an incentive to supply the product to everyone who is willing to pay the incremental cost of production.
An even more striking example can be constructed if we assume that there is also a fixed cost of production of $25. In this case, there is no uniform price at which the firm can recover its costs. The only economically viable solution is for the firm to charge each user according to his or her willingness to pay. If there are large fixed costs, and low marginal costs, differential pricing may be required for a producer to be economically viable.

Essential services
It is sometimes argued that "essential services" should not be differentially priced. The term "essential service" is rather vague, but one might define it as a service that everyone would want to have if they could afford to purchase it. For such services, differences in willingness to pay arise primarily from differences in income rather than tastes.
If this is the appropriate definition of "essential service" then the case for differential pricing outlined above is even stronger. Differential pricing implies that users with higher willingness-to-pay end up paying higher prices than users with lower willngnesses-to-pay. If differences in willingness-to-pay are primarily determined by differences in income, then differential pricing is effectively charging users with higher income more than those with lower income.

Differential pricing of intermediate goods does not change the analysis
We have considered differential pricing in consumer goods. However, the same principles apply to markets for intermediate goods. In particular, technologies with large fixed costs, low marginal costs and/or significant shared costs may easily require differential pricing to be economically viable.
Consider, for example, the following simple numerical example. A supplier offers a service that has fixed costs of $10 and marginal costs of $1 per unit supplied. Two customers each want to purchase one unit of the service, which they use as an intermediate good to produce a final service which they sell to the consumers. Customer A is willing to pay $12 for the service; customer B is willing to pay $5. Consider the following scenarios.
  • Sell service at marginal cost. In this case the producer sells the service at a price of $1 to each of the customers, but would then fail to recover its fixed costs, which is not economically viable.
  • Sell service at a flat price. In this case the supplier would find it most profitable to set a price of $12 and sell only to customer A. Customer B would not be able to purchase the service event though it would be willing to cover marginal cost.
  • Differential pricing. If differential pricing is feasible, the producer would set a price of $12 for customer A and $5 for customer B. Each customer would be serviced and the supplier would be able to cover its fixed costs.

Mandated service virtually requires differential pricing.
Telecommunications services often involve large fixed costs, low marginal costs, and significant shared costs. If such services are required to be provided to a large number of diverse users, and costs are to be covered without the use of externally provided subsidies, it is very likely that differential pricing will be necessary.
To see this, let us consider the simple example used several times before in this paper: a single-product firm with a large fixed cost and a small, constant marginal cost. If a given population is to be served, and flat pricing is the only option, then the price must be set at the willingness to pay of the customer who has the lowest value for the service. If the population has sufficient dispersion in willingness to pay, the person with the lowest value may easily up having a willingness to pay that is less than average cost of production. But if the price is less than the average cost of production, total costs cannot be recovered.
Put another way: the broader the population that must be served, the lower the price that can be charged. But a sufficiently low price can easily result in revenues that are inadequate to recover costs. The only way out of this dilemma is to either provide subsidies for customers with low ability to pay, or for the firm to engage in differential pricing.

Summary
We have seen that differential pricing is a natural outcome of profit seeking forces and may easily contribute to economic efficiency. Forcing a policy of flat pricing in an industry where it is inappropriate due to the nature of the technology may well have perverse consequences. The key concern in examining the welfare consequences of differential pricing is whether or not such pricing increases or decreases total output.End of article

Author
Hal R. Varian, School of Information Management and Systems, 102 South Hall, University of California, Berkeley, CA 94720-4700. Email: hal@sims.berkeley.edu URL: http://sims.berkeley.edu/~hal. Research support from NSF SBR-9320481 and Pacific Telephone is gratefully acknowledged.


Notes 1. By "joint costs" I mean the cost of those factors of production that are used to produce more than one output. In the remainder of the paper I generally consider the case of a single-output firm since the points I wish to make are most simply illustrated in that context.
2. Huber [1993], and no doubt several other observers, have made the same point. The contribution of this article is to lay out the economic theory that supports these conclusions.
3. See Varian [1992], pp 222-223.
4. The original classification can be found in Pigou [1920]; the following discussion is drawn from Varian [1993].
5. See Varian [1993], pp. 427-431 or Varian [1992], pp 244-248 for a detailed analysis.
6. See Varian [1985] or Varian [1992], pp. 250-253.

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Copyright © 1996, First Monday
Differential Pricing and Efficiency by Hal Varian First Monday, Volume 1, Number 2 - 5 August 1996 http://firstmonday.org/htbin/cgiwrap/bin/ojs/index.php/fm/article/viewArticle/473/394