Chapter 13 Direct Price Discrimination Price Discrimination Is The Practice of Charging Different Prices To Different Buyers or Groups of

Chapter 13 Direct Price Discrimination
Price discrimination is the practice of charging different prices to different buyers or groups of
buyers based on differences in demand. Charging lower prices to low-value consumers also
means that you charge high-value customers higher prices, making the practice controversial. If
the higher prices arise from the higher costs of serving small mom-and-pop shops, then the
higher prices are not discriminatory.
In a direct price discrimination scheme, we can identify members of the low-value group, charge
them a lower price, and prevent them from reselling their lower-priced goods to the higher-value
group (arbitrage). In an indirect discrimination scheme, we cannot perfectly identify the two
groups or cannot prevent arbitrage, so we must find indirect methods of setting different prices to
the two different groups.
The Robinson-Patman Act is part of a group of laws collectively called the antitrust laws
governing competition in the U.S. Under the Robinson-Patman Act, it’s illegal to give or receive
a price discount on a good sold to another business. This law does not cover services or sales to
final consumers. Antitrust economists have long recognized that the Robinson-Patman Act
discourages discounting. If companies have to offer the same price to every customer, they are
less likely to reduce price to their most price-elastic customers. Consumers don’t like knowing
that they’re paying a higher price than other consumers. This is summed up in popular sayings
like “Only schmucks3 pay retail [prices].”
So, if you’re price discriminating, it’s important to keep the scheme secret if you can. Otherwise,
you may lose your high-value customers to rivals who don’t price discriminate (or who hide it
better).
Chapter 14 Indirect Price Discrimination
When a seller cannot directly identify who has a low or high value, the seller can still
discriminate by designing products or services that appeal to different consumer groups. This
indirect price discrimination scheme differs from the direct schemes of the previous chapter
because high-value customers could clip coupons if they wanted. Fear of such “cannibalization”
is characteristic of most indirect price discrimination schemes. Price discrimination is not always
profitable. Sometimes, it is better to offer only a single product as the risk of cannibalization is
too great. Indirect price discrimination is not only a pricing issue, but also a product design issue.
So far, we’ve been discussing ways of price discriminating between different customers— that
is, setting different prices to different people or groups of people. Here, we consider the case of a
single customer who demands more than one unit of a good. This is an individual demand curve.
Note the difference between an individual and an aggregate demand curve. With an aggregate
demand curve, each point represents a different consumer with a different value for a single unit
of the good. For an individual demand curve, each point represents the value that a single
consumer is willing to pay for an additional unit.
We can also use bundling in a slightly different context—when consumers have different
demands for different items. Bundled pricing5 allows a seller to extract more consumer surplus if
willingness to pay for the bundle is more homogeneous than willingness to pay for the separate
items in the bundle. For example, the bundling of channels allows cable TV providers to extract
65% more consumer surplus than if the channels were priced separately.6
Chapter 16 Bargaining
Bargaining, it is the alternatives to agreement that determine the terms of agreement, regardless
of the precise form of the negotiations. If you can increase your opponent’s gain to reaching
agreement (or decrease your own), you make your opponent more eager to reach agreement, and
this allows you to capture a bigger share. Player has just two possible strategies: bargain hard or
accommodate. If both bargain hard, they’ll reach no deal, and each earns nothing; if both
accommodate, they split the gains from trade. If one player bargains hard and the other
accommodates, the player who bargains hard takes higher gain.
To summarize: the strategic view of bargaining suggests that if you can commit to a position,
you can capture a bigger share of the gains from agreement. But committing to a position is
difficult because it requires you to act against your self-interest.
John Nash, the same mathematician responsible for Nash equilibrium, proved that any
reasonable bargaining outcome would split the gains from trade. We call this an “axiomatic” or
“nonstrategic” view of bargaining because it does not depend on the rules of the bargaining game
or whether players can commit to a position. This nonstrategic view of bargaining tells you that
if you can decrease your own gain to reaching agreement by improving your outside option, you
become a tougher bargainer—because you have less to gain by reaching agreement.
In the end, this raises the obvious question, which is better? The answer is that “it depends” on
the particular setting in which you find yourself. If you can credibly commit to a position by, for
example, making a take-it-or-leave-it offer, then go ahead. If, as is more likely, commitment is
costly or not credible, then try to change the alternatives to agreement, as they determine the
terms of agreement.
Chapter 18 Auctions
Auctions are often used in conjunction with bargaining. In this case, the auction identified a
potential negotiating partner, and the student used the outside alternative of rival bids to
negotiate a deal. A variety of auction formats are available, and we start with the most familiar.
In an oral or English auction, bidders submit increasing bids until only one bidder remains. The
item is awarded to this last remaining bidder. Stronger losing bidders lead to higher winning
bids.
A Vickrey or second-price auction is a sealed-bid auction in which the item is awarded to the
highest bidder, but the winner pays the second-highest bid. Vickrey auctions are also useful for
auctioning off multiple units of the same item. The highest bidder wins the item at a price equal
to the highest bid. In contrast to a second-price auction, in a sealed-bid first-price auction, you
have to pay the amount you bid. Consequently, each bidder faces a trade-off: He can bid higher
and raise the probability of winning, but doing so lowers his surplus (or profit) if he does win.
In equilibrium, each bidder shades his bid; that is, he balances these two effects by bidding
below his value. In these auctions, experience is the best teacher. In general, you should bid more
aggressively—shade your value less—if the competition is stronger.
Bidders can raise profit by agreeing not to bid against one another. If collusion is suspected, do
not hold open auctions; do not hold small and frequent auctions; do not announce the winners or
the winning bids.
To avoid the winner’s curse in common-value auctions, bid below your estimated value. Bid as if
your estimate is the most optimistic and everyone else thinks it is worth less. Oral auctions return
higher prices in common-value auctions because they release more information.

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Chapter 13 Direct Price Discrimination

higher prices are not discriminatory.

the two different groups.

like “Only schmucks3 pay retail [prices].”

consumer is willing to pay for an additional unit.

accommodates, the player who bargains hard takes higher gain.

difficult because it requires you to act against your self-interest.

become a tougher bargainer—because you have less to gain by reaching agreement.

aggressively—shade your value less—if the competition is stronger.

the winning bids.

higher prices in common-value auctions because they release more information.

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