Mark Duquaine

Block Pricing:

Block pricing is a pricing strategy in which identical products are packaged together in order to increase profits by forcing customers to make an all or none decision. By packaging the product and selling it as one unit the firm earns more than if it sold all of the units at a simple per unit price. The profit maximizing price for a block pricing scheme is the total amount the consumer receives for the product. This amount also includes the consumer surplus. This pricing strategy is very similar to the two-part pricing strategy in that it's purpose is to extract the maximum conumer surplus. Source: Baye, Michael. Managerial Economics and Business Strategy. 2006. The chart below illustrates the the block pricing scheme:

Block Pricing:
external image 300px-TwoPartTariffHomogDemandNAX.svg.png

Source: http://en.wikipedia.org/wiki/Two_part_tariff

This chart shown above illustrates the block pricing strategy. In a block pricing scheme, the firm will charge a price equal to the sum of A,B,C and the area below the MC curve and to the left of Qc. By charging this price for a quantity of Qc, the firm will be able to extract all of the consumer surplus. Furthermore, the firm will force the consumer to make an all or nothing decision. The consumer will have to either buy an amount of Qc or buy nothing. Given the two choices the hope and the expectation is that the consumers will choose to purchase Qc units at a price of Pc. An added benefit to the block pricing scheme over the price discrimination pricing strategy is that firms can increase profits with block pricing even in situations where consumers have identical demands for a firms products.



Real World situation where block pricing is used:

Block pricing is frequently used by supermarkets to extract the most value out of the consumers. An example is a package of toilet paper. Oftentimes the supermarkets will bundle the toilet paper into units of 24 or 48 to force the consumer to buy the large pack or not to buy the pack at all. By packaging the toilet paper in this way, the supermarket can earn a larger profit.



Questions:

1) How is block pricing different from two-part pricing?

2) True or False: Block pricing means to charge different groups of people different prices.

3) Is block pricing socially efficient?

4) What would happen if the block pricing was higher than the total consumer valuation of a good?


(Answers are provided below)



















1) Block pricing is different from two-part pricing because in two-part pricing the firm charges a fixed fee AND a per unit fee that is equal to the marginal cost. Block pricing only charges one fixed price. The profits from the two pricing strategies should be equal, all other factors remaining the same, if the firms sell the socially efficient number of units.

2) False: Charging different prices to different groups of people is called price discrimination. Block pricing does not discriminate amongst different groups of people, rather it causes an all or none decision to be made by the consumer. Furthermore, block pricing is superior to price discrimination in that consumers can have identical demand for a firm's product and the strategy will still work.

3) Block pricing is socially efficient when firms sell the amount of product where the marginal cost equals demand. In this case the total profits for the firm will be equal to the consumer surplus.

4) If block pricing were higher than the consumer valuation of the product, the product would not be purchased due to the all or none aspect of block pricing.