Ethics Of Price Discrimination

Note to new readers: Do check out my other articles on versioning andprice discrimination. It would help me greatly if readers coming from Rutgers or New Jersey let me know how they found this article.

When I last visited Italy, I was walking along a street in Sienna that was lined up with stores selling  ceramic arts. It was a surprise to me see the prices vary from store to store (even two adjacent stores) for pieces that looked identical (to my untrained eye). Better yet, I saw no locals making  a purchase (makes sense) and there were some willing to haggle and for them the prices kept dropping. Different customers paid different prices. Is this price discrimination? Is this a model for a marketer to follow?

Price discrimination is charging different prices to different customers for the same product. Perfect price discrimination occurs when every customer is charged a price that is equal to their willingness to pay. Previously I talked about consumer surplus as “the size of the smile on face of customer after paying the price for the product” (definition source: Prof. Steve Tadelis). In perfect price discrimination no one leaves the store with a smile. Such a perfect pricing model does not exist except if we are willing to bend the ethics.

Pricing is about value capture – a product or service delivered creates certain value to the customer and price is the way for the marketer to get a share of the total value created. A same product will be of different value to different customers.  For example I talked about pricing for fluorescent and LED  bulbs. The value of a long lasting bulb that requires fewer replacement is higher for a customer who incurs a high changing cost vs. a home customer who has no such costs.  It is only fair that the same longer life bulb is priced differently to these customers.

The Wall Street Journal talked about rug sales and how different customers pay different prices:

Except for connoisseurs, the only thing most buyers know is what they “love.” A seller can size up a buyer and decide what he’s likely to pay. In business school, it’s called “price discrimination.” Mr. Hassankola has learned that lesson: He went to business school in Switzerland. When he finished, in 1991, he took a job in a Zurich rug warehouse.

This is not that different from the sales I saw in Sienna and other touristy places. Customers are charged different prices because of the information gap and not based on  value difference. The WSJ story later talks about a woman who dismissed the claim by the store owner that a particular rug was purchased by his grandfather, because she could tell that the rug looked newer. But most of us do not have an idea about the quality, age, workmanship or the public value of the rug we are purchasing. In other words, the prices are different not because of value difference but because of knowledge difference.

It is difficult for me to accept this practice as price discrimination. This may work in transactional situations, where a marketer makes just one sale to each customer but does not help if the marketer wants to build a long term relation with the customer. No one can succeed in a business that adds no or negative value to the customers.

As long as the price discrimination is based on economic value added it is justifiable, fair and ethical.

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