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ANALYSIS
GROUP 8
Cruz, Melanie
Dela Cruz, Charle- son
Gamboa , Jezzarene
Advanced Pricing Techniques
Price discrimination
Multiple products
Cost-plus pricing
2
Capturing Consumer Surplus
Uniform pricing
Charging the same price for every unit of
the product
Price discrimination
More profitable alternative to uniform
pricing
Market conditions must allow this practice
to be profitably executed
Technique of charging different prices for
the same product
Used to capture consumer surplus
(turning consumer surplus into profit)
3
The Trouble with Uniform Pricing
(Figure 1)
4
Price Discrimination
Exists when the price-to-marginal cost ratio
differs between two products:
PA PB
≠
MC A MCB
5
Price Discrimination
Three conditions necessary to practice
price discrimination profitably:
1) Firm must possess some degree of
market power
2) A cost-effective means of preventing
resale between lower- and higher-price
buyers (consumer arbitrage) must be
implemented
3) Price elasticities must differ between
individual buyers or groups of buyers
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First-Degree (Perfect) Price
Discrimination
Every unit is sold for the maximum
price each consumer is willing to pay
Allows the firm to capture entire
consumer surplus
Difficulties
Requires precise knowledge about every
buyer’s demand for the good
Seller must negotiate a different price for
every unit sold to every buyer
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First-Degree (Perfect) Price
Discrimination (Figure 2)
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Second-Degree Price
Discrimination
Lower prices are offered for larger
quantities and buyers can self-
select the price by choosing how
much to buy
When the same consumer buys
more than one unit of a good or
service at a time, the marginal
value placed on additional units
declines as more units are
consumed
9
Second-Degree Price
Discrimination
Two-part pricing
Charges buyers a fixed access charge (A) to
purchase as many units as they wish for a
constant fee (f) per unit
Total expenditure (TE) for q units is:
TE = A + fq
TE A + fq
Average price ( p ) is: p= =
q q
A
= +f
10
q
Second-Degree Price
Discrimination
When consumers have identical
demands, entire consumer surplus
can be captured by:
Setting f = MC
Setting A = consumer surplus (CS)
Optimal usage fee when two
groups of buyers have identical
demands is the level for which MRf =
MCf
11
Inverse Demand Curve for Each of 100
Identical Senior Golfers (Figure 3)
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Demand at Northvale Golf Club
(Figure 4)
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Second-Degree Price
Discrimination
Declining block pricing
Offers quantity discounts over
successive discrete blocks of quantities
purchased
14
Block Pricing with Five Blocks
(Figure 5)
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Third-Degree Price
Discrimination
If a firm sells in two markets, 1 & 2
Allocate output (sales) so MR1 = MR2
Optimal total output is that for which MR =
T
MC
For profit-maximization, allocate sales of
total output so that
MRT = MC = MR1 = MR2
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Third-Degree Price
Discrimination
Equal-marginal-revenue principle
Allocating output (sales) so MR1 = MR2 which
will maximize total revenue for the firm (TR1
+ TR2)
More elastic market gets lower price
Less elastic market gets higher price
17
Allocating Sales Between Markets
(Figure 6)
18
Constructing the Marginal Revenue
Curve (Figure 7)
19
Profit-Maximization Under Third-Degree
Price Discrimination (Figure 8)
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PRICING OF MULTIPLE
PRODUCTS
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Multiple Products
Related in consumption
For two products, X & Y, produce & sell
levels of output for which
MRX = MCX and MRY = MCY
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Multiple Products
Related in production as
substitutes
For two products, X & Y, allocate production
facility so that
MRPX = MRPY
Optimal level of facility usage in the long run
is where MRPT = MC
For profit-maximization:
23
Profit-Maximizing Allocation of
Production Facilities (Figure 9)
25
Profit-Maximization with Joint
Products (Figure 11)
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Cost-Plus Pricing
Common technique for pricing
when firms do not wish to estimate
demand & cost conditions to apply
the MR = MC rule for profit-
maximization
Price charged represents a markup
(margin) over average cost:
P = (1 + m)ATC
Where m is the markup on unit cost
27
Cost-Plus Pricing
Does not generally produce profit-
maximizing price
Fails to incorporate information on demand &
marginal revenue
Uses average, not marginal, cost
28
Practical Problems with Cost-Plus
Pricing (Figure 13)
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