Practise price discrimination evaluation by linking ticket or hotel prices to elasticity, producer revenue and consumer welfare effects.
In February 2020 the European Commission fined the Spanish hotel group Meliá € 6.678 million for charging consumers from different EU countries different prices for the same rooms.
Evaluate the possible benefits of price discrimination to both the business and consumers.
Illustrate your answer with an appropriate diagram(s).
Indicative content guidance
Answers must be credited by using the level descriptors (below) in line with the general marking guidance. The indicative content below exemplifies some of the points that candidates may make, but this does not imply that any of these must be included. Other relevant points must also be credited.
Quantitative skills assessed:
QS4: Construct and interpret a range of standard graphical forms.
QS9: Interpret, apply and analyse information in written, graphical, tabular and numerical forms.
- Definition of price discrimination - where a firm is charging different prices to different users for the same product/service
- Conditions necessary for Price Discrimination:
- monopoly power
- PEDs must be different in each sub-market
- it must be possible for the business to be able to keep the sub-markets separate, so that there is no switching between sub-markets
Output OQ and high price OP where demand is price inelastic
Output OQ1 and lower price of OP1 where demand is price elastic Higher total profit when compared with combined market
Possible benefits to the business
- Charging higher prices to those consumers whose demand is relatively inelastic and lower prices to those consumers whose demand is relatively elastic . Increases revenue for the business
- Extraction of consumer surplus to increase producer surplus benefits the business as profits rise
- Selling to a larger market increases revenue for the business
- The business may be able to use resources more efficiently, such as increasing use of space during off-peak times (e.g. hotels, train companies and restaurants)
- The business may be able to use resources more efficiently, such as increasing use of space during off-peak times (e.g. hotels, train companies and restaurants)
Possible benefits to consumers
- Consumers in the sub-market in which demand is price elastic will benefit from lower prices and higher consumer surplus e.g. low-income groups
- This may result in more options e.g. staying in different cities or resorts
- Higher profits may encourage further investment by firms which can improve quality and possibly lower prices due to effects of dynamic efficiency
- Without price discrimination, the business may make losses and exit the industry reducing consumer choice Cross-subsidisation of different business activities to avoid losses means some consumers are able to purchase the good/service
- Improved quality of service for price-inelastic consumers (less crowding on peak services)
NB if no diagram candidate can achieve a maximum of level 3
NB Level 4 response requires benefits to both business and consumers
Level
Mark
Descriptor
0
No rewardable material.
Level 1
1-3
Displays isolated, superficial or imprecise knowledge and understanding of economic terms, principles, concepts, theories and models.
Use of generic material or irrelevant information or inappropriate examples.
Descriptive approach which has no chains of reasoning.
Level 2
4-6
Displays elements of knowledge and understanding of economic terms, principles, concepts, theories and models.
Limited application of knowledge and understanding to economic problems in context.
A narrow response or superficial, only two-stage chains of reasoning in terms of cause and/or consequence.
Level 3
7-9
Demonstrates accurate knowledge and understanding of economic terms, principles, concepts, theories and models.
Ability to apply knowledge and understanding to some elements of the question. Some evidence and contextual references are evident in the answer.
Analysis is clear and coherent. Chains of reasoning in terms of cause and/or consequence are evident but they may not be developed fully or some stages are omitted.
Level 4
10-12
Demonstrates accurate and precise knowledge and understanding of economic terms, principles, concepts, theories and models.
Ability to link knowledge and understanding in context using appropriate examples which are fully integrated to address the broad elements of the question.
Analysis is clear, coherent, relevant and focused. The answer demonstrates logical and multi-stage chains of reasoning in terms of cause and/or consequence.
Evaluation (8 marks) - indicative content
The business:
- Higher revenue/profits depend on the extent to which the firm can maintain the conditions necessary for price discrimination
- May only apply in the short-run. If a new business enters the market because of the supernormal profit being made, price discrimination may not be possible
- If costs of separating the sub-markets are high then the extra revenue gained may be limited
- If the impacts are judged to be anticompetitive, there are regulatory bodies in place, then the business may be fined
- Damage to reputation of business
Consumers:
- Consumers with inelastic demand will be paying higher prices resulting in a loss of consumer surplus
- A significant number of different prices can be confusing and potentially costly for consumers
- Price discrimination may make it more difficult for consumers to make rational choices
Level
Mark
Descriptor
0
No rewardable material.
Level 1
1-3
Identification of generic evaluative comments.
No supporting evidence/reference to context.
No evidence of a logical chain of reasoning.
Level 2
4-6
Evidence of evaluation of alternative approaches.
Some supporting evidence/reference to context.
Evaluation is supported by a partially-developed chain of reasoning.
Level 3
7-8
Evaluation recognises different viewpoints and/or is critical of the evidence, leading to an informed judgement.
Appropriate reference to evidence/context.
Evaluation is supported by a logical chain of reasoning.