First degree price discrimination

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First degree price discrimination

First degree price discrimination or optimal pricing separates whole market into individual customers and charge them maximum price according to their willingness to pay (Riley and College 2006). It is because of varying price among units. Majority of industries especially client service sector practice price discrimination where firms charge different price for each service sold. The price will be equal to the consumer’s maximum willingness to pay.

where demand is more inelastic and lower prices where demand is more elastic or price-sensitive.

There is often opposition to differential pricing because it may seem unfair for the same product to have a very different price in different markets – indeed, “price discrimination” sounds intrinsically unfair. But if producers are able to charge different prices to different groups of consumers based on their ability to pay, then more consumers will be able to afford the medicine and utilization of medicines will likely be greater than if all consumers are charged the same price. If utilization increases with differential pricing, overall social welfare increases because lower-income consumers are able to afford medicines when they face prices commensurate with their ability to pay. Increased utilization also means higher overall profitability for manufacturers and therefore greater incentives to invest in R&D. So although “price discrimination” may sound undesirable, if it increases utilization then it can increase consumer welfare overall. The intuition is clear: If manufacturers charge the same price for drugs in poor countries as in wealthier income countries, fewer people in those poor countries will be able to afford the drugs, compared to differential prices that are related to income. (Patricia Danzon)

Another common argument – and I believe a misinformed argument – is that the U.S. pays higher prices because some other countries pay less. This is another variant of the notion that the U.S. is subsidizing other countries, and it is incorrect. If manufacturers can charge different prices in different countries, their incentive is to charge the profit-maximizing price in each country, regardless of prices in other countries. In other words, prices in the U.S. reflect market conditions and willingness-to-pay in the U.S., regardless of whether or not other countries are getting the same products at lower prices. Put it another way: Assume, for example, that India or Europe were willing to pay higher prices … that would not bring down prices in the U.S. That would simply mean more revenue to fund R&D.

Pharmaceutical company needs to have information about costumers’ ability to pay in order to involve first degree price discrimination. Mostly, producers are not capable of discussing with customers. If pharmaceutical companies charge each consumers to pay no more than their ability to pay, then “access problem” would not be known as it is now. All consumers around the globe would have access to the vaccines and medicines which they need. Increasing sales of pharmaceutical products to indigent people of developing countries expands markets and increase manufacturers’ willingness to conduct research in those areas. This strategy would help to address the “incentive problem” moderately. Manufacturers would be happy because their profit increasing as a result of expanding the market. People would be happy because vaccines and medicines are now would be accessible to all.

However, marginal cost of sellers to collect the relevant data in order to understand each consumer almost always outweigh the marginal revenue (Pigou, supra note 30, at 280). In third-party payer system, health maintenance organization (HMO) as a healthcare provider and negotiator between consumer and producer of service most often does not allow for huge differences in prices for the same medical service and it is bounded by law in order to accurate menu cost. Abovementioned reasons are main barriers to implement first degree price discrimination in healthcare sector.


William W. Fisher III1 and Talha Syed2

Infection: The Health Crisis in the Developing World and What We Should Do About It

(Stanford University Press, forthcoming 2017)
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