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Real-Life Price Discrimination - An Example

By January 2, 2008

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One of my favorite topics when teaching a Principles of Microeconomics course is that of "price discrimination" - loosely defined as charging different prices to different buyers for the same (or virtually the same) good. Students tend to relate best to examples of third-degree price discrimination, which is defined as when "the market can be segmented and when the segments have different elasticities of demand". I particularly enjoy examples of third-degree price discrimination where the buyers assign themselves to the groups rather than the sellers requiring that "to get this price, you must be over 65".

I was reminded of an excellent example of this today at the pharmacy, when I was shopping for medication for a cold I am currently fighting.

My favorite cold medicine recently released an extra strength version. I studied both of the boxes carefully; I had to anyway because I have celiac disease and reading ingredient lists is what us celiacs do. Anyhow, it appears that the only difference between the regular and extra strength versions is that the regular version the pills have 200mg of the active ingredient and you take them three times a day, whereas in the extra strength version the pills have 300mg of the active ingredient and you take them twice a day. So either way you're getting 600mg of the dose each day times the number of pills you take at each sitting.

The regular strength box had 18 pills, the extra strength box had 12 pills. So in both cases, you are paying for 3600mg of the active ingredient. Other than the instructions on when to take the pills, the two bottles seem identical in every way.

Except for price. The regular version costs $9.99. The extra strength version? $15.99. By introducing the extra strength version the company was able to charge more for an identical product, to people with more money who do not read boxes too carefully. Of course, the downside is that it (arguably) weakens the brand perception of the regular strength version.

One thought did occur to me - even though the two products are identical (or at least appear to be), I wonder if the extra strength version would do better in clinical testing that regular strength version, if both groups were told in advance which version they were receiving. I suspect they would, due to the placebo effect. So maybe the two bottles are not so identical after all.

Comments

January 3, 2008 at 1:56 pm
(1) Wilson Mixon says:

I like talking with students about first-degree price discrimination. I tell them that I’ve heard that one does not discuss air fares with other passengers, lest someone gets upset. Then I ask them if they discuss their tuition, net of rebates, with other students. Most don’t.

The interesting point is that practicing 1st-degree price discrimination requires intimate knowledge of the buyers’ willingness to pay, more than almost any seller can gain. Except that schools can set a sticker price and then base rebates on ability (not necessarily willingness) to pay. Students quickly catch on to this as you ask them how the school can gain so much more knowledge than other sellers can.

Of course, I alway end this conversation with a disclaimer that I certainly don’t believe that MY school engages in price discrimination, at least not for the purpose of gaining revenue. The students give my disclaimer due credence.

January 10, 2008 at 1:44 am
(2) debela geleta says:

Ohoo! I liked it and I found it to be a very good scenario of the case.Indeed there are many circumstances where by customers are to are not paying close attention to the the real disparity of products.They only think that the higher the price ,the higher the value.
Coming to your case ,however; don’t you think that if you take the pill twice a day you will be better of than taking it trice a day.
Debela Geleta
Lecturer
University of Hawassa
Awassa,Ethiopia

April 22, 2009 at 2:06 pm
(3) David Switzer says:

While it might be the same milligrams, it’s not the exact same product. As Deleba indicated, taking it twice is better than taking it three times. Is that worth paying 60% more? Not to me. Then again, I am always dismayed at the Boniva commercials, and the birth-control advertisements that seem to indicate the main benefit of their product is that you have to take it less often (once a month vs. once a week for Boniva). Is that REALLY worth the extra cost? I guess it depends on who you are, or whether your insurance company is paying for it.

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