Discriminatory pricing

Discriminatory pricing or price discrimination is a type of sales strategy carried out by some companies which consists of charging different prices to customers for the same good or service. In general, what the seller does is to charge the customer the maximum price that the customer is willing to pay.

The differentiating factor between customers to divide them into groups with different price ranges is usually the demographic factor or how consumers value the product or service in question.

The key in price discrimination is whether the company's profit is increased by carrying out this practice of market separation, obviously, if this business profit increases with respect to the profit that would be obtained if it is assumed that customers are equal in terms of preferences, and thus, treating the target market as a single one without subdividing it.

Types of discriminatory pricing

There are three different types or models of the price discrimination strategy:

• First-degree discrimination: this consists of charging the customer the maximum price per unit. In this case, the seller appropriates the consumer's surplus. This type of strategy is actually more of a theoretical reference than a realistic commercial strategy.

• Second-degree discrimination: occurs when the company charges different prices according to the quantities consumed, usually the higher the quantities, the lower the prices. This type of strategy is not usually questioned or judged by the competition authorities, as it only tends to reflect the cost efficiencies derived from the higher volume of product sold.

• Third-degree discrimination: this consists of the charging of different prices by the company to different groups of consumers. An example might be going to a sporting event, paying different rates for the same ticket depending on whether the customer is a child, a student, an adult or a pensioner. This is the most common form of price discrimination.

Conditions for the strategy to be effective

There are also some conditions for the seller to be able to apply the price discrimination strategy effectively:

• The seller must have a certain market power which allows him to set a selling price above marginal cost, so there must not be significant competition from rival companies, since one of the possible results to be able to face such competition would be the search for prices close to marginal cost, which would make it impossible to carry out a price discrimination policy.

• It is necessary for the seller to be able to recognize the different willingness to pay, distinguishing the price inclination that each group of consumers is willing to pay, thus identifying through indicators what would be the maximum price willing to pay for each group of customers.

• The seller must also have the power to avoid or control arbitrage, thus being able to prevent the resale of products by consumers who pay lower prices than those who would be willing to pay a higher price.

Can price discrimination be considered an illegal practice?

In most cases, this practice is considered legal because it can be considered an ability on the part of the company to adapt its prices according to market dynamics. However, price discrimination may be considered an illegal practice if it is based on race, religion, nationality or gender, or if it is considered to violate or potentially violate laws such as price-fixing or antitrust.

Discriminatory pricing today

Nowadays, the great progress in technology and artificial intelligence has made price discrimination tactics easier and more productive for companies, thanks to elements such as Big-Data and algorithms.

This type of price discrimination could be called algorithmic discrimination, which mainly seeks to maximize business profit by setting a different price for the same product based on the willingness to pay of different consumers at the same moment in time.

This type of strategy is generally characterized by charging regular customers higher prices than new customers, thus taking advantage of the loyalty of older customers.

If a repeat buyer pays a higher price than a new buyer for the same product at the same time, the repeat buyer feels that the seller is being unfair and experiences a sense of betrayal. This feeling of betrayal on the part of the consumer may be determined by a belief that companies are taking advantage of them, trying to exploit or cheat them.

A clear example of this is the case of Amazon in 2000, when Amazon priced DVDs differently based on consumers' demographics, online behaviors and purchase history.

This led to consumer anger, and Amazon issued a press release stating that the company was just conducting an experiment with random discounts and offering refunds to people who paid above-average prices.

In conclusion

This strategy, as is usually the case, generates agreements and disagreements.

From the companies point of view, this strategy is useful to maximize their yields and profits, as long as it is done legally and without possible controversies.

From the consumers point of view, a somewhat more complicated debate arises. Customer groups that feel they benefit from this practice by getting lower prices are generally in favor and support these measures. However, groups that feel disadvantaged by price discrimination do not usually agree with this practice as they may perceive a certain sense of betrayal or exclusion on the part of the company.

References

• Armstrong,M. (2006). Price Discrimination. "University College London"
• Elegido,J. (2011). The Ethics of Price Discrimination. "Cambridge University Press".
• Zhiyan,W. (2022). The Impact of Algorithmic Price Discrimination on Consumers’ Perceived Betrayal. "Shanghai University of International Business and Economics"

Author: Alejandro Román