Surplus extraction

First-degree price discrimination

I.                             Definition: Charging each consumer their exact willingness to pay.

II.                          Notes: Extracts all consumer surplus; rare in practice because firms usually lack perfect information.

Second-degree price discrimination

I.                             Definition: Charging different prices based on the quantity purchased or version chosen (e.g., bulk discounts, quality levels).

II.                          Notes: Consumers self-select into different prices.

Third-degree price discrimination

I.                             Definition: Charging different groups different prices based on identifiable characteristics (student discounts, senior pricing).

II.                          Notes: Groups must have different demand elasticities, and resale must be prevented.

two-part pricing

I.                             Definition: A price system with a fixed fee + per-unit price (e.g., Costco membership + purchase price).

II.                          Notes: Fixed fee extracts surplus; per-unit price encourages more consumption.

block pricing

I.                             Definition: Selling a bundle of units as a single package (e.g., 10 rides for $50).

II.                          Notes: Lets the firm capture more surplus by pricing the block near total willingness to pay.

commodity bundling

I.                             Definition: Selling multiple products together as a package (e.g., Microsoft Office).

II.                          Notes: Useful when customers value items differently; helps increase total revenue.

peak-load pricing/dynamic pricing

I.                             Definition: Charging higher prices during high-demand periods and lower prices during off-peak times.

II.                          Notes: Useful when capacity is limited (airlines, electricity).

cross-subsidy

I.                             Definition: Charging higher prices in one market to subsidize lower prices in another.

Notes: Common in industries with mixed customer groups (e.g.,

transfer pricing

I.                             Definition: The price one division of a firm charges another for internal transactions.

II.                          Notes: Important in large firms to coordinate production and avoid internal inefficiency.

price matching

I.                             Definition: A promise to match competitors' prices.

II.                          Notes: Discourages rivals from cutting prices because everyone will follow.

Brand loyalty

I.                             Definition: Creating incentives for customers to stick with the firm (e.g., loyalty programs, switching costs).

II.                          Notes: Reduces customers’ willingness to switch during price wars.

randomized pricing

I.                             Definition: Firms vary prices unpredictably to make it harder for rivals to undercut

II.                          them.
Notes: Can reduce intense competition by increasing consumer search costs.