Price discrimination in airline industry
Published on: Mar 4, 2016
Transcripts - Price discrimination in airline industry
Price Discrimination inAirline industryJoji ThomasS2 MBAROLL NO.14
DEFINITION The offering of similar or identical goods atdifferent prices to different buyers. The setting of a price differential on similar goodsthat is not based on differences in the cost ofproduction.
Two main conditions required forprice discrimination to workDifferences in price elasticity ofdemand:• Charge a higher price to group with lowPED• Charge lower price to consumers with amore price elastic demandPrevent resale / consumer switching• Easier with services than goods• Time limits – product bought at certaintime• Photo cards / identification systems• Electronic / digital ways of protectingusage
Types of Price Discrimination 1. First degree price discrimination This involves chargingconsumers the maximum price that they are willing to pay. Therewill be no consumer surplus. 2. Second degree Price discrimination This involves chargingdifferent prices depending upon the quantity consumed. Forexample, after a certain number of units consumed, electicitytariffs tend to be lower. 3. Third degree price discrimination This involves chargingdifferent prices to different groups of people. The firm may splitup the market according to segments based onage, income, time of day. 4. Fourth degree price discrimination. This occurs when theprice consumers pay is the same, but the firm incurs differentcosts. e.g. a firm may charge same price to a disabledpassenger, even though it faces higher costs. 5. Premium pricing. This occurs when firms charge differentprices for slightly different variations of the good. Forexample, the firm may charge an extra 30p to consumers whoget organic coffee. The organic coffee may only cost 1p extra tofirm.
1st Degree DiscriminationSometimes known as optimal pricingThe firm separates the market into eachindividual consumer and charges them theprice they are willing and able to pay.If successful, the business can extract theentire consumer surplus that lies underneaththe demand curve and turn it into extra revenueor producer surplus
2nd Degree Price DiscriminationSelling blocks of tickets / productsin larger quantitiesGetting rid of excess inventories /stocks when demand is lowStandby tickets forhotels, theatres, flights etcPeak and off-peak pricing schemese.g. travel, telecommunications
3rd Degree DiscriminationMost frequently found form of pricediscrimination and involves charging differentprices for the same product in differentsegments of the market.The key is that third degree discrimination islinked directly to consumers’ willingness andability to pay for a good or service.It means that the prices charged may bear littleor no relation to the cost of production
Advantages of Price Discrimination Firms will be able to increase revenue. This will enable some firms tostay in business who otherwise would have made a loss. Increased revenues can be used for research and developmentwhich benefit consumers Some consumers will benefit from lower fares.Disadvantages of Price Discrimination Some consumers will end up paying higher prices. Decline in consumer surplus. Those who pay higher prices may not be the poorest. E.g. adultscould be unemployed. There may be administration costs in separating the markets. Profits from price discrimination could be used to finance predatorypricing.
PRICE DISCRIMINATION INAIRLINE INDUSTRY It is well known that the airline industry haspracticed price discrimination for many years. We all know that on each flight the passengershave paid different prices, and that in some caseswe can observe that the highest price is as muchas five times the lowest price. You can buy an expensive, flexible ticket. Thenyou are allowed to reschedule the flight or evencancel it without any costs.
Another common characteristics in many nationalmarkets is that large firms that demands airlinetickets write a contract with an airline, where thefirms’ employees receives a certain discount on eachairline ticket. This kind of price discrimination, where differentgroups are charged different prices, is therefore atype of price discrimination.
Finally, frequent flyers programs are important in theairline industry. It implies that those who aremembers of such a program can earn memberpoints for each flight and later use the points to claima free bonus flight. It can be seen as a kind of discount,and in thatrespect it is a kind of price discrimination.Therefore, we will also consider the welfare effects offrequent flyer programs. Based on the characteristics of this industry, threedifferent kinds of price discrimination exists. (i) versioning, (ii) discounts to large consumers and(iii) frequent flyer programs