Question

(a) Graphically illustrate and explain a firm engaging in intertemporal price discrimination. 7. (b) Graphically illustrate and explain a firm engaging in peak-load pricing. (c) A monopolist firm faces a demand with constant elasticity of -2.0. It has a constant marginal cost of $20 per unit and sets a price to maximize profit. If marginal cost increases by 25%, what would be the change in price level?

Answer 1

a) Firms in durable good product markets face incentives to intertemporally price discriminate, by setting high initial prices to sell to consumers with the highest willingness to pay, and cutting prices thereafter to appeal to those with lower willingness to pay. A critical determinant of the profitability of such pricing policies is the extent to which consumers anticipate future price declines, and delay purchases.

b) Peak-load pricing is a pricing technique applied to public goods which is a particular case of a Lindahl equilibrium. Instead of different demands for the same public good, we consider the demands for a public good in different periods of the day, month or year, then finding the optimal capacity (quantity supplied) and, afterwards, the optimal peak-load prices.

c)

Yes, because the elasticity is constant otherwise the elasticity also increases as price increases.

P=MC/(1+(1/e))

=20/(1+(1/(-2))

=40

the new MC=20*0.25=25

new P=25/(1+(1/(-2))

=50

the increase in P=(new P -old P)/old P

=(50-40)/40

=0.25

=25%