MCom I Semester Managerial Economics Price Discrimination Study Material Notes

MCom I Semester Managerial Economics Price Discrimination Study Material Notes: Meaning and Definition of price Discrimination Objectives or Causes or price discrimination Necessary Condition s for Price Discrimination Types of Price Discrimination Meaning of Non-Competition Justification of price Discrimination Objectives of Dumping Internation Price Discrimination Dumping :

MCom I Semester Statistical Analysis Simulation Study Material Notes

PRICE DISCRIMINATION

MEANING AND DEFINITION OF PRICE DISCRIMINATION

Generally, a producer or seller fixes a single price for his product and sells his product to all the consumers at this price. But some are the circumstances in which a producer charges different prices from different consumers for the same product. He sells his product to some of the consumers at a high price and to other consumers at a lower price. This situation is called Price Discrimination. The term ‘Price Discrimination has been defined as under:

Mrs. John Robinson, “The act of selling the same article, producted under a single control, at different prices to different buyers is known as Price Discrimination.”

OBJECTIVES OR CAUSES OF PRICE DISCRIMINATION

Important causes of Price Discrimination are as under:

(1) To charge different prices from different buyers according to their paying capacity i.e., to charge higher price from rich buyers and lower price from poor buyers.

(2) To charge different prices from different buyers on the basis of their geographical condition i.e., to charge higher price from the consumers who are far away from the place of production and to charge lower price from the consumers who are near to the place of production.

(3) To charge different prices from different consumers on the basis of utility derived by them by using the product or service in different manners. For example, the rate of electricity for industrial consumers is different and the rate of electricity for domestic consumers is different.

(4) To discourage competitors in a particular market.

(5) To discourage new firms from entering into a particular market.

(6) To introduce a product into a new market or to expand the market.

(7) To operate the plant at maximum possible level of activity.

(8) To earn maximum profit through maximum sales.

TYPES OF PRICE DISCRIMINATION

Some Important Types of Price Discrimination are as follows:

1 Individual Price Discrimination. When Price Discrimination is made on individual basis, it is called individual Price Discrimination. Under this type of price discrimination, some customers are charged higher price and other customers are charged lower price. For example, to sell a product to the shareholders, employees, firends, relatives etc., at a lower price and to sell the same product to other customers at a higher price.

2. Geographical Price Discrimination. When Price Discrimination is made on the basis of geographical conditions, it is called geographical price discrimination. For example, to sell a product at a higher price to the consumers who are far away from the place of production and to sell the same product at a lower price to the Consumers who are near to the place of production.

3. Price Discrimination on the Basis of Use. When Price Discrimination is made on the basis of use of a product or service, it is called price discrimination on the basis of use. For example, electricity is supplied to industrial users at a higher rate and to domestic consumers at a lower rate.

4. Group Price Discrimination. When Price Discrimination is made on the basis of group of consumers, it is known as group price discrimination. Under this type of price discrimination, all the consumers of a product are divided into certain groups and the product is sold to them at different prices on the basis of these groups.

5. Price Discrimination on the Basis of Time. When different prices are charged for a product or service on the basis of its use, it is called price discrimination on the basis of time. For example, different rates are charged for the use of Telephone in day and night.

6. Price Discrimination on the Basis of Facilities. When Price Discrimination is made on the basis of facilities provided alongwith a product it is called price discrimination on the basis of facilities. For example, Indian Railways charges different fares for journey in second class, first class, air conditioned classes, etc.

7. Price Discrimination by Offering Discount. Sometimes Price Discrimination is not made directly. It is made by offering some discount to certain buyers, this discount may either be cash discount or trade discount or distributors discount, etc.

NECESSARY CONDITIONS FOR PRICE DISCRIMINATION

These conditions are as follows:

1 Monopolistic Situation. Price determination is successful under monopolistic competition and can not be successful under perfect competition.

2. Agreement with Competitors. Price Discrimination can be successful only when there is an agreement in respect of Price Discrimination among all the competitors.

3. Sale on Orders. Price Discrimination can be adopted when a manufacturer produces goods only on orders. He can easily charge different price from different buyers.

4. Ignorance of Consumers. Consumers should not have perfect knowledge of price discrimination.

5. The difference in Elasticity of Demand of Different Markets. Price Discrimination can be successful only when there is a difference in the elasticity of demand of a product in different markets.

6. The difference in the Purchasing Power of Buyers. If there is a difference in the purchasing power of buyers, price discrimination can be adopted successfully.

7. Nature of Product. Nature of Product also plays an important role in price discrimination. It can be adopted in respect of the goods and services of confort and luxuries.

8. Geographical Distance. Price Discrimination can be adopted when there is a difference in geographical location of buyers.

9. Irrational Feelings of Buyers. I. is a common observation that the buyers feel that a high-priced commodity is better than a low-priced commodity. Price discrimination can set the advantage of these feelings of buyers.

10. Government Policy. Sometimes Government itself adopts the practice of price discrimination. For example, in our country, rate of electricity for household is different from industrial sector.

JUSTIFICATION OF PRICE DISCRIMINATION

A question arises in respect of price discrimination as to whether it is justified to adopt price discrimination or not. Answer to this question depends upon the circumstances in which price discrimination is adopted and the purpose for which it is adopted.

Circumstances and Objects in which Price Discrimination Justified are

(1) If price discrimination aims at providing protection to an industry of national importance.

(2) If price discrimination aims at increasing national product.

(3) If price discrimination aims at promoting exports or restricting imports.

(4) If price discrimination aims at reducing inequalities in the distribution of income and wealth in the country.

(5) If price discrimination aims at providing and promoting economic welfare as in case of public enterprises such as railways, posts and telegraphs and electricity etc., price discrimination is adopted for promoting economic welfare.

(6) If price discrimination is made on the basis of geographical conditions.

MEANING OF NON-PRICE COMPETITION

Non-price Competition means the competition which is not based upon the price of product. Such competition is based upon product differentiation, distribution channel, facilities to customers and sales promotion programmers etc. Though this competition also considers the price of product but it is not the base of this competition. Thus, it may be concluded that when the base of competition is anything other than price, it is called Non-price Competition.

METHODS OF NON-PRICE COMPETITION

Important Methods of Non-price Competition are as follows:

1 Product differentiation. Under this method, a manufacturer tries to make some differences in his product in comparison to the products of competitors. Thus, under this method of Non-price Competition, product differentiation becomes the base of competition. This product differentiation may be in respect of the quality of product, style of product, brand of product, packing of product etc.

2. Distribution Channel. Under this method of Non-price Competition, efforts are made to adopt a distribution channel which may be suitable to the enterprise and which may satisfy the needs and expectations of customers. Efforts are made to make the product available to customers at their nearest place.

3. Facilities to Customers. Under this method of Non-price Competition, several facilities are provided to customers so that they prefer this product in comparison to the products of competitors. These facilities include the facility of credit sales, the facility to sell on hire-purchase system, the facility of sale on instalment system, the facility of home delivery and the facility of after-sale-services etc.

4. Advertisement and Sales Promotion Programmes. Under this method of Non-price Competition, an enterprise stresses upon advertisement and sales promotion programmes to increase the demand of its product.

CAUSES OF POPULARITY OF NON-PRICE COMPETITION

Non-price Competition is becoming more and more popular these days. Important Causes for the popularity of Non-price Competition are as follows

(1) Almost all the producers and sellers want to avoid price-war because they realise that the results of price-war are always adverse. stability to the business and *. They can earn profit for a long period with the help of cause this competition stresses upon the development of product, also.

(2) Non-price Competition pro industrial enterprise. They can eam such competition.

(3) Non-price Competition provides maxi consumers because this competition sur channels of distribution and facilities to customers.

(4) It has been the experience that Non-price Competition is more successful in increasing the demand of product in comparison to mi Competition.

(5) Non-price Competition helps in increasing employment opportunities

INTERNATIONAL PRICE DISCRIMINATION: DUMPING

Meaning of Dumping

Dumping is an International Price Discrimination in which an exporter firm sells a portion of its output in a foreign market at a very low price and the remaining output at a high price in the home market. Haberler defines dumping as : “The sale of goods abroad at a price which is lower than the selling price of the same goods at the same time and in the same circumstances at home, taking account of differences in transport costs.” Viner’s definition is simple. According to him, “Dumping is price discrimination between two markets in which the monopolist sells a portion of his produced product at a low price and the remaining part at a high price in the domestic market.”

Types of Dumping

Dumping can be classified in the following three ways

1 Sporadic or Intermittent Dumping. It is adopted under exceptional or unforseen circumstances when the domestic production of the commodity is more than the target. In such a situation, the producer sells the unsold stocks at a low price in the foreign market without reducing the domestic price.

2. Persistent Dumping. When a monopolist continuously sells a portion of his commodity at a high price in the domestic market and the remaining output at a low price in the foreign market, it is called presistent dumping.

3. Predatory Dumping. The predatory dumping is one in which a monopolist firm sells its commodity at a very low price or at a loss in the foreign market in order to drive out some competitors. But when the competition ends, it raises the price of the commodity in the foreign market.

OBJECTIVES OF DUMPING

The main objectives of dumping are as follows

1 To find a place in the foreign market.

2. To sell surplus commodity.

3. Expansion of industry.

4. New trade relations.

PRICE DETERMINATION UNDER DUMPING

Assumptions

Price determination under dumping is based on the following conditions or assumptions

1 The main aim of the monopolist is to maximise his profit. He, therefore, produces that output at which his marginal revenue equals marginal cost. Since he sells his commodity in the domestic market and the foreign market separately, he adjusts the quantity like wise in each market that marginal revenues in both markets are equal. In other words, dumping profit MRH = MRF = MC.

2. The elasticities of demand must be different in the two markets. The demand should be less elastic in the domestic market and perfectly elastic in the foreign market

3. The foreign market should be perfectly competitive and the domestic market is monopolistic.

4. The buyers in the domestic market cannot buy the cheap commodity from the foreign market and bring it in the domestic market.

Determination

Given these conditions price and output under dumping will be determined by the quality of the total marginal revenue curve and the marginal cost curve of producing the commodity. Figure illustrates price-output determination under dumping. The foreign market demand curve faced by the monopolist is the horizontal line PDF which is also the MR curve because the foreign market is assumed to be perfectly elastic. The demand curve in the home market with a O H Output T less elastic demand for the product is the downward sloping curve leads to the form ion of TRED As the combined marginal  revenue curve is MRH.

The lateral summation of MRH and PDF curves leads to the formation of TRED, as the combined marginal venue curve. In order to determine the quantity of the commodity produced by the monopolist, we take the marginal cost curve MC. E is the equilibrium point where MC curve equals the combined marginal revenue curve TREDF. Thus OF output will be produced for sale in the two markets. Since FE is the marginal cost, equilibrium in the domestic market will be established at point R where the marginal cost FE equals the MR, curve (FE=HR). Now OH quantity will be sold at HM price in the home market and the remaining quantity HF will be sold in the foreign market at OP (FE) price.

EFFECTS OF DUMPING

Dumping affects both the importer and exporter countries in the following ways: Effects on Importing Country

1 Dumping is harinful for the importing country if it continues for a long period. This is because it takes time for changing production in the importing country and its domestic industry is not able to bear competition. But when cheap imports stor or dumping does not exists, it becomes difficult to change the production again.

2. If the dumped commodity is a consumer good, the demand of the people in the importing country will change for the cheap goods. Thus changing the tastes of the people which will be harmful for the economy.

3. If the dumped commodities ae cheap capital goods, they will lead to the setting up of a new industry. Ultimately, the importing country will incur a loss.

4. If a tariff duty is imposed to force the dumper to equalise prices of the domestic and imported commodity, it will not benefit the importing country.

5. If a producer dumps his commodity abroad for a short period, then the industry of the importing country is affected for a short while.

Price Discrimination Study Material

Effects on Exporting Country

1 When domestic consumers have to buy the monopolistic commodity at a high price through dumping, there is loss in their consumer:s surplus. But if a monopolist produces more commodity in order to dump it in another country, consumers benefit.

2. The exporting country also benefits from dumping when the monopolist produces more commodity. Consequently, the demand for the required inputs such as raw materials, etc. for the production of the commodity increases, thereby expanding the means of employment in the country.

3. The exporting country earns foreign currency by selling its commodity in large quantity in the foreing market through dumping. As a result, its balance of trade improves.

ANTI-DUMPING MEASURES

The following measures are adopted to stop sumping:

1 Tariff Duty. To stop dumping, the importing country imposes tariff on the dumped commodity. Consequently, the price of the importing commodity increases and the fear of dumping ends.

2. Import Quota. Import quota is another measure to stop dumping under which a commodity of a specific volume or value is allowed to be imported into the country. For this purpose, it includes the imposition of a duty along with fixing quota, and providing a limited amount of foreign exchange to the importers.

3. Import Embargo. Import embargo is an important retaliatory measure against dumping. According to this, the imports of certain or all types of goods from the dumping country are banned.

4. Voluntary Export Restraint. To restrict dumping, developed countries enter into bilateral agreements with other countries from which they fead dumping of commodities. These agreements ban the export of specified commodities so that the exporting country may not dump its commodities in other country. Such bilateral VER agreements exist between India and EU countries in exporting Indian textiles.

It is generally observed that anti-dumping measures explained above harm rather than benefit the country adopting these measures. The producers of the country never wants that commodities should be imported from abroad. They therefore, pressurise the government to restrict the import of better and cheap imports by calling them dumped commodities. The reason for this is to misinterpret dumping. According to Article IV of GATT 1984, which now forms part of the World Trade Organisation (WTO), a country can adopt anti-dumping measures only if the dumped imports “injure” the industry of the country. Under these situations, the importing country can impose anit-dumping duty, provided the margin of dumping is more than 2% of the export price or is more than 7% of the dumped import.

Price Discrimination Study Material

İ PRACTICAL PROBLEMS

Problem 1. M/S. Anurag & Co. (a Monopolist) conducted a survey regarding the expected demands of its product at various price levels and got the following results

Price Per Unit (in Rs.)               10 9 8 7 6 5

Sales (In ‘000 Units)             120 150 180 220 260 300

Total Cost (In ‘000 Rs.):    1.250 1,350 1,400 1,450 1.500 1,550

You are required to decide the following:

(i) If M/s Anurag & Co. adopts the policy of single price, how much units should he produce to earn the maximum profit and what price should he charge ?

(ii) If M/s Anurag & Co. adopts the discriminatory pricing policy, dividing his customers into separate groups according to their paying capacity, how much units should he produce to earn he earn by doing so ?

(in) If M/s Anurag & Co. charges discriminatory prices, will it be in the interest of the customers ?

If M/s Anurag & Co. adopts the policy of single price, it should produce and sale 2,20,000 units at a price Rs. 7 each to earn the maximum profit Rs. 90,000. This fact clears from the following table

By the adoption of discriminatory pricing policy M/s Anurag & Co. will be able to earn extra profit of Rs. 8,80,000 – 90,000 = 7,90,000 by selling 3,00,000 units in place of selling 2,20,000 units at a single price of Rs. 7.

(iii) The discriminatory pricing policy will be beneficial also for financially weaker customers because all of them will enjoy the same commodity by making the payment according to their paying capcity. It will raise their standard of living.

Problem 2. M/s Manju Automobiles, Delhi manufacturers a Tractor Component. The normal production and sales of this company is 4,000 components a day. The Average Cost of this component comes to Rs. 45 each which is sold at a wholesale price of Rs. 60 each.

The Company gets an offer to supply additional components to different private firms on the following terms

(i) Sushil Auto Stores, Meerut offers to buy 250 components at a price of Rs. 57 each.

(ii) Anuj Traders, Muzaffarnager offers to purchase 150 components at a price of Rs. 55 each.

(iii) Ms Raj Spare Parts, Modinagar sends an offer to supply 300 compenents at a price Rs. 52 each.

The Company estimates that M/s Majul Automobiles can produces the additional components at an Average Costs of Rs. 50 for first 250 units, at Rs. 52 for next 150 components and at Rs. 56 for the last 300 components.

Which of these orders should be accepted by the Company ?

Solution : In accepting an order the basic principle should be taken into consideration that the production may be continued upto the point where Marginal Cost (MC) equals to Marginal Revenue (MR) (MC-MR).

Here in the first two offers MR>MC but in the third offer MR<MC. Hence, offers from Sushil Auto Stores, Meerut and Anuj Traders, Muzaffarnagar should be accepted and offer from M/s Raj Store Parts, Modinagar should be rejected. By doing so, the firm will earn an extra profit of Rs. 2,200 as cleared below:

Problem 3. M/s Ritu Rama & Co. manufacturers a single product which is sold to other manufacturers who further process it and Sale to ultimate users. The Average Monthly Production and Sales in 60,000 Units. The figure relating to Selling Price and Costs are as follows: