Question

When would direct price discrimination be more advantageous than indirect price discrimination? What is necessary for direct price discrimination as compared to indirect price discrimination? Illustrate your answer with original examples not found in the course materials, or already given by a fellow student.

Please respond in 200-250 words

Answer 1

Direct price discrimination is more advantageous than indirect price discrimination when groups can be perfectly identified in terms of their elasticity. This situation allows sellers to increase profitability by taking advantage of the less price-elastic consumers who place significant value on a good or service. For example, golf courses offer different green fees and membership rates based on age. Juniors/students and seniors typically get a sizable discount, because their price-elasticity of demand is much greater than the age range between the aforementioned groups. Therefore, in this situation, a golf course entices those with relatively high price-elasticity of demand to consume the service with a discount, as well as take advantage of those who have a low price-elasticity of demand by increasing profit margin. The ability to identify low- and high- value customers whose elasticities differ is needed for direct price discrimination, as well as charge the low-value customers a lower price and prevent this segment from reselling to high-value customers. The previously mentioned example meets all three requirements in that groups can be perfectly identified through age, seniors cannot sell memberships or green fees to those in a different age range, and low-value customers are charged at a lower price. On the other hand, indirect price discrimination requires the ability to identify a feature that is perceived as valuable, not perfectly identify two groups or prevent arbitrage. For example, manufacturer warranties can be used to illustrate indirect price discrimination. With a couple or several options at progressive prices, companies differentiate consumer’s groups by their value of coverage and peace-of-mind. The feature is the number of years covered under the warranty to which discriminates high- and low-value consumers by their willingness to pay more for extended coverage. In addition, an upgraded warranty is typically just a fraction more than the traditional which entices low-value consumers to upgrade. This is a similar concept to the wine example presented in the book.