A Fair Price and Your Price

2013

What is the "right" price to pay for something and should we all pay the same price? Is it fair for a business to charge some people more for a product or service than they charge others? Questions like these are interesting, and worthy of discussion according to the ethical issues raised. For example, if a pharmaceutical company invests millions in developing a life-saving drug, and then start producing the drug for a cost $1 per dose, they might in theory make a marginal profit at a wholesale cost of $1.50, except that they have to recover those millions spent on research too. One way they can do this is to charge people in wealthier countries a lot more than those who live in poor countries. Charging according to what people can afford seems like an ethical arrangement which generates the revenue necessary to recover initial investments and provide a decent profit.

But what if the point is to simply charge each customer as much as possible using any techniques available? Is that fair? It is a tough question, but it is also a practical challenge for companies, and thus we have what is sometimes called "dynamic pricing." Most people have not heard the term, but many of the largest retailers have been using this kind of pricing for years now. It's also called "price discrimination," and in some ways it's the holy grail of pricing strategies for businesses. It's a way to get the most profit for a product or service by charging different amounts according to how much each customer is willing to pay at any given time in any particular circumstance. One online dictionary defines it as "Commerce offering goods at a price that changes according to the level of demand, the type of customer, or the state of the weather." Yes, umbrellas can be sold for more during a patch of rainy weather, but the concept goes much, much beyond simple examples like this.

Dynamic pricing has been around for a long time in various forms. For example, the typical "happy hour" at places where people gather to drink is based on this concept. Later in the evening, when a pub is full and has people waiting at the door there is no reason to charge low prices for drinks. A frugal customer is simply taking space that would otherwise be occupied by someone willing to pay more for drinks and food. But during slower times it makes sense to try to attract those frugal people by lowering prices.

It would be wonderful (for businesses) if there was always a way to get people to pay as much as they are willing to pay for what they buy, but over the years it has been a difficult idea to implement in most industries. However, now this strategy of charging different prices to different customers has become much more common online. Before I get to how to deal with this as a consumer, let's look at the basic concept and how it works from the perspective of the business owner.

We start with a basic dilemma in pricing a product or service. Suppose, for example, that me and some other customers are willing to pay $46 for a particular brand of jeans. The store might pay a wholesale cost of $16, and so make a gross profit of $30. But what if sales are slow? They could sell the jeans for $26 and perhaps sell many more pairs. The gross profit is only $10 per pair, or one-third as much, but if they sell four times as many they make more total profit.

But of course they hate to lose that $30 profit they could have had from me and others willing to pay the $46 price. What they would prefer is to sell them to some customers for $26, and to others for $46, as well as at prices in-between, according to how much each customer is willing to pay. They would love to be able to practice such "price discrimination," but it's difficult to do with jeans. One way it has been done by some retailers is to have expensive products in their high-end stores while selling the same jeans at their discount stores. To some extent, then, the customers self-segregate themselves and pay accordingly. Those who try to pay the least for everything will go to the discount stores, after all, while those who are willing to pay more will shop and buy their jeans where the selection and service is better, or at least where it is believed to be better.

Of course, it would be a dream-come-true for retailers if they could have dynamic pricing in the same store. If they could just read people's minds as they walked in the door, and then have the prices each one sees change as they walk up to the displays, that would mean squeezing the most possible profit out of each customer. But how likely is that?

Actually, the internet has made this possible to some extent. Huge quantities of information are gathered as we surf the net, and now when we buy a few expensive products, the cookies in our computers can tell the next site we visit to show us the page with the higher prices, while others who go to the same website will see lower prices. We no longer really know if we are seeing the same page and same prices as other people.

As a consumer, one way you can deal with this is to clear the cookies in your browser before you go shopping. Since doing this is different for each browser, I will forgo the instructions here and send you the following site:

http://www.aboutcookies.org

That will not always resolve the problem though. If you have previously shopped at a website they may track your IP address and buying habits and market to you accordingly. If you suspect this is happening, you can always go to the site from a computer at a friend's house, a public library, or from your laptop at a coffee shop -- after clearing the cookies again. You also can use one of the many proxy servers online, so your IP address will not be known by the vendor. When you arrive, note whether everything looks the same and the prices are the same.

More About Dynamic Pricing and Fair Prices

The concept of dynamic pricing is not in itself nefarious. It's just another way to market and sell products and services. If you market to rich people you would naturally try to sell your product or service for more since they can afford to pay more and usually will. Meanwhile, you might offer discounts to customers who can't otherwise afford your product, as long as you can still make a profit at the lower price. A plumber, for example, might use this strategy to keep his business viable. If that means he can pay higher wages or hire more employees, we might look at it as something like "a market theory of income redistribution."

Recently I was subject to dynamic pricing in one of the more common forms. Specifically, I upgraded to faster internet. I'm fairly sure that to give me 30 mbs or 18 mbs download speeds costs the cable company the same. Most likely they purposely slow down the lower-cost service, so those who want to pay less will still buy their service, while those (like myself) who need the speed and can pay the price will do so.

This is more common than you might think. Many companies offer slightly different products so that the customers segregate themselves and pay according to affordability. And yes, there have been numerous cases documented where they effectively sabotage the product in order to sell a lower-priced version without losing the higher-priced sales, even if that means it costs more to produce the version they sell for less. That's been a method of dynamic pricing for decades.

Is it fair? It's not really easy to say. The example I started with, of a drug being sold for less to those who are poor and more to those who can afford it, doesn't seem that wrong ethically. But, on the other hand, it's sad to think that a business would purposely sabotage a product or service just to be able to sell the un-sabotaged version to a different market segment. If a particular economic system results in the destruction of value in order to boost profits, perhaps there is something wrong with that system. In any case, be aware that whatever others pay, your price might be different.

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