Second-Degree Price Discrimination Example
In class on Monday and Tuesday (9/17-18) we went through the second degree price discrimination example involving a company selling airline tickets to tourists and businesspeople. The following slide, included in your handouts, laid out the example: [pic]
As the solutions to the problem set explain, the way to approach these problems is to think through possible pricing strategies the company might want to use, such as selling to all consumers, selling only to the high willingness to pay consumers or selling to both consumers using a second degree price discrimination strategy.
Strategy 1 involves setting one price (a simple, as opposed to advanced, pricing strategy) low enough so that both types of consumers would buy the tickets. Since tourists’ maximum willingness to pay is $300, this is the maximum the company could charge them, hence the maximum they could charge for the ticket under this strategy.
Strategy 2 also involves setting one price but ignoring the tourists (pricing them out of the market) and only selling to the businesspeople. If the company is going to do this, it should offer the high quality product (the unrestricted ticket) and charge the business people their maximum willingness to pay for it, $800.
Strategy 3 is a set up to get you to think about the constraints a company faces in trying to do second-degree price discrimination. The key here is to see that if the company tried to offer an unrestricted ticket for $800 and a restricted (Saturday-night-stay) ticket for $300, the businesspeople would buy the restricted ticket because that gives them the most consumer surplus ($100 versus $0 for the unrestricted ticket). You should think of consumers as deciding between spending money on the good in question (here an airline ticket) and saving their money. That’s one way to think of consumer surplus—money they would have been willing to spend on the good in question, but are happy...
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