Price Discrimination in Action

As a quick reminder, price discrimination is the practice of charging different groups of people different prices based on differences in their willingness to pay. Want to see it in action? Try going to the web site of a major computer manufacturer that offers solutions for different groups like large businesses versus small businesses. Enter the web site twice, once through each link, and price the exact same product.

I tried this recently and got a 20% lower price on a new notebook computer when I entered through the low-value group link (small business) versus the high-value group link (large business). What I don’t quite understand is why the high-value group just doesn’t mimic the behavior of the low-value group. Maybe the manufacturer is offering other services to the high-value group that can only be accessed through the high-value group link.

FYI - I generated the quotes for a Latitude D830 from Dell's online store.

Is deception profitable?

In previous posts, we have talked about the use of testimonial advertising by fraudsters, and this raises the question of how widespread and profitable deception is. Some presidential candidates have blamed deception as a cause of the subprime lending crisis. Eugenio Miravete studies this, and finds some deception by long distance phone companies,

Imagine that you moved to Texas in the middle of the 1990s and wanted to sign up for a long distance telecommunication carrier. After fifteen minutes of answering questions about your personal details, the operator asks you which carrier you choose for long distance calls. You say “I do not care,” .... two months later, when you get your first bill, you realize that you are indeed subscribed to “I Do Not Care, Inc.” which by the way is charging astronomical rates for your long distance calls.

But consumers quickly learn about the deception and react appropriately.

...while consumers often fail to subscribe to the least expensive plan for their usage profile, these mistakes are not systematic, and subsequent plan switching is best explained as an explicit attempt to reduce monthly bills.

This leads Miravete to conclude that

Deceptive behavior is just one of many such quality characteristics – and given sufficient competition, consumers who are unhappy with this particular characteristic can choose to take their business elsewhere. So long as sufficient competition exists, there is no need to impose standards of behavior on firms or to provide step-by-step guidance to consumers in making their decisions: consumers can and will make sensible decisions for themselves.

Professor Miravete testified at the FTC's conference on behavioral economics which provides a nice summary of what we know about behavioral biases of consumers and how they should (or should not) affect policy. It also highlights the behavioral research that FTC staff economists do, leading to innovations like the prototype mortgage disclosure form.

Thanks to Joe Mulholland for the heads up.

Forbes 400 as a lesson in economics

John Tamny (former student) analyzes the Forbes 400. My favorite entries highlight the importance of managerial acumen

A constant complaint among workers at all levels is that management does a poor job. Carl Icahn (#18) agrees, and to fix the latter, he buys troubled companies in order to improve their administration, all the while agitating entrenched managers of companies he owns a percentage of to fix what's wrong or be fired. Google was mentioned earlier, and due to the foresight of venture capitalists John Doerr (#271) and Michael Moritz (#380), it had the funding to morph from a non-entity into the work-enhancing business that it is today.

And only 74 of the 400 inherited their wealth; 270 are self made.

...Min Kao (#64) and Gary Burrell (#114) for designing global-positioning systems.....Craig McCaw's (#135) cellular innovations.....Alfred Mann (#204) developed cochlear implants .....Stryker Corp. CEO John Brown (#380) makes artificial hips and limbs to help the bedridden stand.....Abraxis CEO Patrick Soon-Shiong (#117) presently has the patents for 30 different [cancer] treatments....

Hey, wanna’ make $67,000, tax-free?

Dispatch from Willy Stern, embedded journalist (Runner’s World) in Iraq with the First Cavalry Division out of Fort Hood, Texas.

She was a waitress back home in Texas without a high school diploma. She heard about well-paying jobs in Iraq from a friend. She went to the KBR (Kellogg, Brown & Root) website and filled out an application. Now she has a cushy job helping out at the fitness center at one of the U.S. Army bases outside Baghdad. KBR pays her $67,000, tax-free. She hands out towels to soldiers who stop in to pump some iron and relieve stress. These are the same soldiers who are going over the wire daily, putting themselves in harm’s way. Most of these enlisted men and women make less than $25,000.

At a marginal tax rate of 25%, $67,000 is equivalent to a before tax income of $89,333. This seems like a huge pay disparity between the skilled soldiers who put their lives at risk, and the unskilled contractors, who largely stay safely on the bases. Why does this compensating wage differential seem to have the wrong sign?

Do iPhones bring customers to AT&T?

In previous posts, we asked whether brands bring customers to stores or whether stores bring customers to brands. Now we have evidence that Apple's iPhone is bringing customers to AT&T.

One million customers bought iPhones in the first 79 days; analysts project 4.5m units sold in the first year. And because iPhones are offered exclusively through AT&T, iPhone users have to sign up for AT&T wireless. If you were being careful you would note that the 4.5m could be existing AT&T customers, but then why would AT&T pay so much for the exclusivity. Apple reputedly keeps all handset revenues and $10 a month per subscriber. Judging from the stock price reactions, Apple is getting most of the gains from trade.

Apple's market capitalisation surged $20bn on iPhone profits buzz, AT&T's shares barely budged.

Thomas Hazlett notes that this kind of exclusive contract may be illegal in Europe (exclusives, especially when offered by dominant firms, are often challenged as anticompetitive). Exclusives are also under attack in the US by the "open access" movement (Google, making the rules so its rivals won't). But exclusives are typically pro-competitive.

Apple could have offered its device as an "open" platform [to all wireless customers], but instead chose (as with iTunes, iPods and Apple computers) to control how it builds, and how buyers use, its product. It aims for competitive superiority. Quashing its model bops the innovator on the head.

Now that the SIM lock on the iPhone has been broken by a hacker so that the iPhone can be used on rival networks, will AT&T will try to renegotiate its contract with Apple? Not likely as it takes 2 hours and a soldering gun to modify the iPhone, and you lose some of its features.

Top 100 Blogs every investor should read

Good categorized list of blogs.

No economists among top pundits in America

Forbes magazine recently released its rankings of the top pundits in America. A pundit is one "who makes comments or judgments, especially in an authoritative manner; critic or commentator." So, naturally I expected to see everyone's favorite Managerial Economics professor/author/blogger high on the list - oh, the disappointment.

Who tops the list? Roger Ebert, film critic for the Chicago Sun-Times, who also has a syndicated television show featuring movie reviews (most famously in the past with Gene Siskel).

Check out the list to see whose opinions matter most in America (prepare to be frightened for the future of the country). Amazingly, no economists made the list. Perhaps that's because "likability" was one of the ratings criteria.

World index of economic freedom

The 2007 edition of the index of economic freedom is out. It measures the degree to which government rules support individual choice, voluntary exchange, freedom to compete, and security of privately owned property.

Since 1980,

• Most improved: Hungary, Peru , Uganda, Ghana, and Israel.
• Most degraded: Zimbabwe, Venezuela, and Myanmar.
• Best: Hong Kong (8.9), Singapore (8.8), New Zealand (8.5), Switzerland (8.3), Canada (8.1), United Kingdom (8.1), United States (8.1), Estonia (8.0), Australia (7.9), and Ireland (7.9).
• Worst: Zimbabwe (2.9), Myanmar (3.8), the Democratic Republic of the Congo, (4.0), Angola (4.2), the Republic of the Congo, (4.3), Central Africa Republic, (4.6), Venezuela(4.9), Burundi (5.0), Chad (5.1), and Niger (5.1)
• Others [Country, rank (score)]: Germany, 18 (7.6); Japan, 22 (7.5); Mexico, 44 (7.1); France, 52 (7.0); Italy, 52 (7.0); India, 69 (6.6); China, 86 (6.3); Brazil, 101 (6.0); and Russia, 112 (5.8).

Interestingly, I thought that Ireland would be one of the most improved. In the 1990's they slashed tax rates and their economy is now one of the richest in Europe. Even the violence has stopped because the opportunity cost of fighting is too high.

Sunk-cost fallacy in real estate

In earlier posts, we have documented the sunk-cost fallacy in the reluctance of businesses to pull the plug; and now we have its appearance in the reluctance of homeowners to sell at a loss.

Two homeowners, with identical houses, will list the houses at different prices, depending on what they paid for the house because of what psychologists call "loss aversion." Unfortunately for these loss-averse sellers, buyers don't suffer from similar delusions,

Properties listed above the market price just sat there. In the Boston market over all, sellers listed their properties for an average of 35 percent above the expected sale price, and less than 30 percent of the properties sold in fewer than 180 days. In other words, much of the market went into a deep freeze as many people held out for market prices that no one would reasonably pay.

If homeowners know they have this bias, why don't they buy house price insurance against a drop in value? Maybe they dont even know.

Anatomy of a tainted dog food re-call: why did price go up, then fall?

In March 2007, after the Chinese recalled tainted wet dog food, what happened? In the graph above, depicting weekly quantity and price for wet dog food sold in the US, we see that price (red) initially peaked, and then fell. Meanwhile, quantity (blue) initially fell, and then recovered to its pre-recall level. But price never returned to its pre-recall level.

A free copy of my textbook to the best explanation of these price and quantity changes in the comments below.