MANAGERIAL ECONOMICS 11 th Edition

1. MANAGERIAL ECONOMICS 11th Edition By Mark Hirschey

2. Pricing Practices Chapter 15

3. Chapter 15OVERVIEW • Pricing Rules-of-thumb • Markup Pricing And Profit Maximization • Price Discrimination • Price Discrimination Example • Multiple-product Pricing • Joint Products • Joint Product Pricing Example • Transfer Pricing • Global Transfer Pricing Example

4. competitive market pricing rule-of-thumb imperfectly competitive pricing rule-of-thumb markup on cost profit margin optimal markup on cost markup on price optimal markup on price Lerner Index of Monopoly Power price discrimination market segment first-degree price discrimination second-degree price discrimination third-degree price discrimination by-product common costs vertical relation vertical integration transfer pricing Chapter 15KEY CONCEPTS

5. Pricing Rules-of-thumb • Competitive Markets • Profit maximization always requires setting Mπ = MR - MC = 0, or MR=MC, to maximize profits. • In competitive markets, P=MR, so profit maximization requires setting P=MR= MC. • Imperfectly Competitive Markets • With imperfect competition, P > MR, so profit maximization requires setting MR=MC. • MR = P[1 + (1/εP)] • Optimal P* = MC/[1 + (1/εP)]

6. Markup Pricing And Profit Maximization • Optimal Markup on Cost • Markup on cost uses cost as a basis. • Markup pricing is an efficient means for achieving the profit maximization objective. • Optimal markup on cost = -1/(εP + 1) • Optimal Markup on Price • Markup on price uses price as a basis. • Optimal markup on price = -1/εP

7. Price Discrimination • Profit-Making Criteria • Price discrimination exists if P1/P2 ≠ MC1/MC2. • Ability to segment the market. • Multiple markets with no reselling. • Price elasticity of demand differs across submarkets. • Degrees of Price Discrimination • First degree: Different prices for each consumer. • Creates maximum profits for sellers. • Second degree: Block‑rates or quantity discounts. • Third degree: Different prices by customer age, sex, income, etc. (most common).

9. Price Discrimination Example • Price/Output Determination • Maximizes profits by setting MR=MC in each market segment. • One-price Alternative • Without price discrimination, MR=MC for customers as a group. • With price discrimination, MR=MC for each customer or customer segment. • Profitable price discrimination benefits sellers at the expense of some customers. • Graphic Illustration

11. Multiple-product Pricing • Demand Interrelations • Cross‑marginal revenue terms indicate how product revenues are related to another. • Production Interrelations • Joint products may compete for resources or be complementary. • A by-product is any output customarily produced as a direct result of an increase in the production of some other output.

12. Joint Products • Joint Products in Variable Proportions • If products are produced in variable proportions, treat as distinct products. • For joint products produced in variable proportions, set MRA=MCA and MRB=MCB. • Common costs are joint product expenses. • Allocation of common costs is wrong and arbitrary. • Joint Products in Fixed Proportions • Some products are produced in a fixed ratio. • If Q=QA=QB, set MRQ=MRA+MRB=MCQ.

15. Joint Product Pricing Example • Joint Products Without Excess By-product • Profit-maximization requires setting MRQ=MRA+MRB=MCQ. • Marginal revenue from each byproduct makes a contribution toward covering MCQ. • Joint Production With Excess By-product (Dumping) • Profit-maximization requires setting MRQ=MRA+MRB=MCQ. • Primary product marginal revenue covers MCQ. • Byproduct MR=MC=0.

16. Transfer Pricing • Transfer Pricing Problem • Pricing transfer of products among divisions of a single firm can become complicated. • Products Without External Markets • Marginal cost is the appropriate transfer price. • Products With Competitive External Markets • Market price is the optimal transfer price. • Products With Imperfectly Competitive External Markets • Optimal transfer price is the marginal revenue derived from combined internal and external markets.

17. Global Transfer Pricing Example • Profit Maximization for an Integrated Firm • Optimal transfer price is profit maximizing. • Transfer Pricing with No External Market • Optimal transfer price balances supply/demand. • Competitive External Market with Excess Internal Demand • Firm employs own and external inputs. • Competitive External Market with Excess Internal Supply • Firm supplies inputs to internal and external markets.