Introduction to Part IV: Pricing strategies and market segmentation

Consider the book you have in your hands and suppose, for now, that this is the only IO textbook on the market, so that we, the authors, are in a monopoly position. To introduce this part, we want to illustrate here how the profit we (or, more correctly, our publisher) can make by selling our book depends on the information we have about our potential consumers, and on the range of instruments we can use to design our tariffs. With limited information and instruments, the best we can do is to set a ‘one-size-fits-all’, uniform, price for all our potential consumers. However, more information and instruments allow us to increase our profit.

Regarding the information about the consumers, it is not enough to know that consumers differ in their willingness to pay for our book; the crucial issue is to know who is willing to pay what. Armed with such knowledge, we can increase profit by setting different prices to different consumers, a practice generally known as price discrimination, presuming that resale is not possible or sufficiently costly. In some situations, the consumers' willingness to pay can be directly inferred from some observable characteristics. Ideally, we would like to know exactly how much each potential consumer is willing to pay for the book; we would then make a personalized take-it-or-leave-it offer to each of them by quoting a price just below the consumer's reservation price; we would thereby appropriate the entire consumer surplus. More realistically, we can use market data analysis to segment our market in several groups, with the consumers in each group sharing some common characteristics and correlated willingness to pay.