Managerial Economics

In Class Exercise Nine - Price Discrimination

 

1.  Block Booking Case (variation of a tie-in sale):

 

Assume there are two movies put out by a movie production company.  One is a "big hit" and the other is a "so-so" movie.

 

There are two theatres:  Nighthouse and Dayhouse

 

The maximum prices they will pay per week for films are: (BH = big hit, SS = so-so)

 

Nighthouse:  $12,000 = PriceBH, $3,000 = PriceSS

Dayhouse:  $8,000 = PriceBH, $4,000 = PriceSS

 

Nighthouse will pay more for BH than Dayhouse, but less for SS.

 

a.   If the movies are sold separately at a uniform price (same price to both theatres), at what price must they sell?  How much revenue would the movie production company make (if these are the only two customers)?

 

 

 

b.  If block booked - would the movie house make more or less?  Explain.

 

 

 

c.  Explain why this is considered price discrimination.

 

 

 

2.  Coupons and trading stamps are forms of price discrimination.  Explain why the following would be predicted by economists:

 

a.  Coupons and trading stamps would be used by a seller relatively less often in cases where the total value of a single purchase is large.

 

 

 

 

b.  In cases where the commodity is personal service, relatively fewer trading stamps and coupons would be used.

 

 

 

 

c.  Owner-operated stores will use relatively fewer trading stamps and coupons than stores employing a large number of sales personnel.

 

 

 

 

 

 

3.  Explain the difference between first, second and third degree price discrimination both in words and graphically.  Why is each profitable?

 

 

 

 

 

 

 

 

 

 

4.  Explain why Heinz ketchup served in restaurants are marked "Not for Retail Sale."

 

 

 

 

5.  A real world example: 

 

The Asian Wall Street Journal is printed daily in Hong Kong, Singapore, and Tokyo for same-morning delivery.  The newspaper charges widely varying prices in the three cities.  A business newspaper is particularly suited to discrimination by location.  Few business people are interested in trading off a lower price for old news.  Hence, the Asian Wall Street Journal can maintain a price in Tokyo that is more than double that that in Singapore.

 

Prices (May 2006):  12 month subscription - HK$2,700 ($348) in Hong Kong, S$525 ($331) in Singapore, and Yen94,500 ($845) in Tokyo.

 

a.  explain these price differences.

 

 

 

b.  the Wall Street Journal Interactive Edition charges the same price of $99 for a 12 month subscription to every subscriber.  Generally, retailers of items that are both sold and delivered over the Internet have not been able to discriminate on price.  Why?

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

6.  In the United States, 1984 legislation permitted certification of generic drugs as "therapeutically equivalent" to the branded version without expensive and lengthy testing.  Since production costs are generally low (compared to R&D costs), generic drugs present competition for the former patent-protected brand name drugs.  A study by a couple of economists of 18 drugs subject to generic competition after the 1984 act documented the rapid market share erosion caused by generic entry.  Generics generally captured 50% of the market within two years of entry.  However, even while generic prices were falling, brand name prices actually rose.  Provide an explanation for this puzzling phenomenon.  Hint:  this is a question about price discrimination (after all, drug companies provide both brand name and generic drugs).  Don't talk about costs in your answer!  (6 pts.)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

7.  Typically, car rental agencies charge much higher prices for gasoline than that at nearby gas stations.  Explain how this indirectly segments between drivers who are paying for a rental themselves and those who are renting at the expense of others?  (4 pts.)