Pricing Strategy

ECON127 L5

What is Game Theory

• Simultaneous single- move games

• They are simple static games - one off decision

-dominant strategy - no matter what x company is going to do, company y is going to do the same

-best response

-Nash equilibrium

Both companies move the same time, only moving once

explain what is happening here - prisoners dilemma

Oligopoly example

A - both charge the same, both earn the same

B - X undercutting Y, X attract more of market, more profit

C - Y undercutting X, Y ""

D - same as A

A - maximise both markets as they both get £10 mil

Dominant strategy for Y is to always charge £1.80, best outcome for it.

X does the same. As it is a simultaneous game both of them don’t know what their decision will be.

D - Nash equilibrium

End up in D as both X and Y both undercut each other. They are both earning less as they are competitive. If they worked with each other then they would get more. Always a temptation to compete so both end up getting worse what could have happened.

Could always work with each other but there is always temptation to compete and undercut each other to get better. Bet idea would be to collude but they compete instead and get Nash equilibrium.

A more complicated game

Strategy of Y changes. If X will charge £1.80 then better for Y to pick £2. but if X charges £2, then better for Y to pick £1.80.

Nash equilibrium in B.

Price discrimination

Charging one price to one set of customers and another price to another set of customers#

First degree - price discrimination

Each customer charged the maximum they are willing to pay.

Charge everyone a different number. So maximum that the company can get

• Light shaded area is the normal amount of revenue a business can get

• Dark shaded is the additional as ablet to charge more.

Second degree - price discrimination

Customers offered the same range of pricing options and choose

• discounts according to quantity purchased

• timing of the purchase

(costco bogof etc)

Third degree - price discrimination

customers split into groups based on easily observable characteristic (students)

• purple is the revenue from a single price

• teal is the increased revenue from price discrimination.

• able to gain a higher revenue

Profit maximising under a third degree price discrimination

• Just showing two diff markets, marginal revenue high and marginal revenue low.

• g and h are both d and a on the other graphs.

• g to h is the demand for market H, from h onwards its the demand curve for market L

• g to j is the marginal revenue for market H, k to down its the marginal rev for L

• constant marginal cost, end up with equib

• charging two diff prices in this market

• High part out of Market H and lower part in market L

• kings demand function