Advanced Pricing Strategies by Kyle J. Anderson

1. Advanced Pricing Managerial Economics Kyle Anderson

2. Additional pricing strategies • Complementary product pricing • Two part pricing • Peak-load pricing • Bundling • Block pricing • Implementing pricing strategies Kyle J. Anderson

3. Sports pricing • Elasticity of demand estimates of sporting events indicate that the own price elasticity of demand is -0.9. Can this be profit-maximizing? Kyle J. Anderson

4. Complementary Pricing P TR Unit elastic 100 Elastic Unit elastic 1200 60 Inelastic 40 800 20 30 40 50 30 40 50 Q Q 0 10 20 0 10 20 MR MR Elastic Inelastic Kyle J. Anderson

5. Complementary Pricing • If you sell multiple products that are complements, it is profit maximizing to sell one or more products below the otherwise profit maximizing price. • Foregone profits on one lead to higher sales (and profits) on other product(s). • Sometimes called a loss leader. • Discounted product should be more “visible.” • A few legal concerns. Kyle J. Anderson

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7. Movie Pricing problem • Frequent movie-goers have a demand curve of Q=8-1/2P (Assume MC=0 (not true!) and ignore complementary products). • Monopoly (or MC) pricing: • P=16 – 2Q • MR = 16 – 4Q, MC = 0 • Q = 4, P = $8 • Profit per customer $32 Kyle J. Anderson

8. Monopoly pricing Price P = 16 – 2Q MR = 16 – 4Q Q=4, P=$8 16 Monopoly Profits = $32 D MC 8 Quantity Kyle J. Anderson

9. Two part pricing Price 1. Set price at marginal cost. 2. Compute consumer surplus. 3. Charge a fixed-fee equal to consumer surplus. 16 Fixed Fee = Profits* = $64 D MC 8 Quantity Kyle J. Anderson

10. Both Monopoly and Two part pricing Price • 1. Set price at marginal cost. • Compute consumer surplus. • Calculate CS under monopoly ($16) • Charge a fixed-fee that leaves enough CS for customers to choose that option. 16 Fixed Fee = $32 - $48 No Deadweight Loss D MC 8 Quantity Kyle J. Anderson

11. Two Part Pricing • Potential gains for both consumers and sellers. • Works when consumers have similar demand curves. • Subscription services may work: (Netflix, utilities) Kyle J. Anderson

12. MC PH DH PL MRH DL MRL QL QH Peak-Load pricing • When demand during peak times is higher than the capacity of the firm, the firm should engage in peak-load pricing. • Charge a higher price (PH) during peak times (DH). • Charge a lower price (PL) during off-peak times (DL). Price Kyle J. Anderson

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15. Other Pricing Strategies • Bundling • Block Pricing • Penetration pricing • Price signaling • Reference pricing • Economies of Scale • Brand loyalty • Experience Curve Kyle J. Anderson

16. Fairness in pricing - Is this fair? A hardware store has been selling snow shovels for $15. The morning after a large snowstorm, the store raises the price $20. Please rate this action as: completely fair, acceptable, unfair, or very unfair. 82% of respondents view this as unfair or very unfair. Kyle J. Anderson

17. What determines a fair price? • Economic/Business point of view • Expectations • Social norms • Price increases should be due to cost changes, not changes in demand. • Loyal customers should get a discount. • Buying in volume should lead to lower per-unit prices. • Some items should be free Kyle J. Anderson

18. Strategies for price discrimination & price changes • Make it invisible. (Carefully) • Make it conform to social norms (i.e. discounts for certain groups.) • Frame differential pricing as discounts rather than a price premium. • Justify price changes by cost changes. • Use inventory strategies to charge differential pricing. (But don’t bait and switch) Kyle J. Anderson

19. Kyle’s Managerial Economics • Books: • The Art of Strategy (Game Theory Bible) • Why Popcorn Cost So Much at the Movies (pricing) • The Informant (Price fixing, Cournot) • The Winners’ Curse (General economics) • Predictably Irrational (Behavioral economics) • Switch (Personal and Organizational Change) • Podcasts: • Planet Money Kyle J. Anderson