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10. Monopoly and Competition

6. Multiform Prices and Monopoly

Up to this point we have always concluded that the market tends, at any given time, to establish one uniform market price for any good, under competitive or monopoly conditions. One phenomenon that sometimes appears, however, is persistent multiformity of prices. (We must consider, of course, a good that is really homogeneous; otherwise, there would merely be price differences for different goods.) How, then, can multiformity come about, and does it in some sense violate the workings or the ethics of a free-market society?

We must first separate goods into two kinds: those that are resalable and those that are not. Under the latter category come all intangible services, which are either consumed directly or used up in the process of production; in any case, they themselves cannot be resold by the first buyer. Nonresalable services also include the rental use of a tangible good, for then the good itself is not being bought, but rather its unit services over a period of time. An example may be the “renting” of space in a freight car.

Let us first take resalable goods. When can there be persistent multiform pricing of such goods? One necessary condition is clearly ignorance on the part of some seller or buyer. The market price for a certain kind of steel, for example, may be one gold ounce per ton; but one seller, out of pure ignorance, may persist in selling it for half a gold ounce per ton. What will happen? In the first place, some enterprising person will buy the steel from this laggard and resell it at the market price, thus establishing effective uniformity. Secondly, other buyers will rush to outbid the first buyer for the bargain, thus informing the seller of his underpricing. Finally, the persistently ignorant seller will not long remain in business. (Of course, it may happen that the seller may have a strong desire to sell steel for lower than market price, for “philanthropic” reasons. But if he persists in doing so, then he is simply purchasing the consumers’ good—to him—of philanthropy and paying the price for it in lower revenue. He is here acting as a consumer rather than as an entrepreneur, just as he would if he hired his ne'er-do-well nephew at the expense of a cut in profits. This, then, would not be a genuine case of multiform pricing, where the good must always be homogeneous.)

Nor is the buyer in a different condition. If a buyer were ignorant and continued to buy steel at two gold ounces a ton when the market price was one gold ounce, then some other seller would soon apprise the buyer of his error by offering to sell him the steel for much less. If there is only one seller, then the cheaper buyer can still resell at a profit to the buyer charged a higher price. And a persistently ignorant buyer will also go out of business.

There is only one case where a multiform price could possibly be established for a resalable good: where the good is being sold to consumers—the ultimate buyers. For while entrepreneurial buyers will be alert to price differentials, and a buyer of a good at a lower price can resell to another buyer charged a higher price, ultimate consumers do not usually consider reselling once they buy. A classic case is that of American tourists at a Middle Eastern bazaar.89 The tourist has neither the time nor the inclination to make a thorough study of the consumer markets, and therefore each tourist is ignorant of the going price of any good. Hence, the seller can isolate each buyer, charging highest prices to the most eager buyers, less high prices to the next most eager, and much lower prices to the marginal buyers, of the same good. In that way the seller achieves a generally unfulfilled objective of all sellers: the tapping of more of the “consumers’ surplus” of the buyers. Here the two conditions are fulfilled: the consumers are ignorant of the going price and are not in the market to resell.

Does multiform pricing, as has often been charged, distort the structure of production, and is it in some way immoral or exploitative? How is it immoral? The seller aims, as always, to maximize his earnings in voluntary exchange, and he certainly cannot be held responsible for the ignorance of the buyer. If buyers do not take the trouble to inform themselves of the state of the market, they must stand prepared to have some of their psychic surplus tapped by the bargaining of the seller. Neither is this action irrational on the part of the buyer. For we must deduce from the buyer's action that he prefers to remain in ignorance rather than to make the effort or pay the money to inform himself of market conditions. To acquire knowledge of any field takes time, effort, and often money, and it is perfectly reasonable for an individual on any given market to prefer to take his chances on the price and use his scarce resources in other directions. This choice is crystal clear in the case of a tourist on holiday, but it is also possible in any other given market. Both the impatient tourist, who prefers to pay a higher price and not spend time and money on learning about the market, and a companion who spends days on an intensive study of the bazaar market are exercising their preferences, and praxeology cannot call one or the other more rational. Furthermore, there is no way to measure the consumer surpluses lost or gained in the case of the two tourists. We must therefore conclude that multiform pricing, in the case of resalable goods, does not at all distort the allocation of productive factors, because, on the contrary, it is consistent with, and in the case of the tourist, the only pricing consistent with, the satisfaction of consumer preferences.

It must be emphasized here that no matter how much the seller at the bazaar taps of his customers’ psychic surplus, he does not tap it all; otherwise the sale would not be made at all. Since the exchange is voluntary, both parties still benefit from making it.

What if the good is not resalable? In that case, there is far greater room for multiform pricing, since ignorance is not required. A vendor can sell an intangible service at a higher price to A than to B without fear that B can undercut him by reselling to A. Hence, most actual cases of multiform pricing take place in the realm of intangible goods.

Suppose now that seller X has managed to establish multiform prices for his customers. He might be a lawyer, for example, who charges higher fees for the same service to a wealthy than to a poor client. Since there is still competition among sellers, why does another lawyer Y not enter the field and undercut X's price to the wealthy clients? In fact, this is what will generally happen, and any attempt to establish “separate markets” among customers will lead to an invasion of the more profitable, higher-price field by other competitors, finally driving the price down, reducing revenues, and re-establishing uniform pricing. If a seller's service is unusual and it is universally recognized that he has no effective competitors, then he might be able to sustain a multiform structure.

There is one simple but very important condition that we have not mentioned which must be fulfilled to establish multiform pricing: the total proceeds from multiformity must be greater than from uniformity. Where one buyer can buy only one unit of a good, this is no problem. If there is and can be only one seller of a nonresalable good, and each buyer can buy no more than one unit, then multiform pricing will tend to be established (barring undercutting by competitors), since the total revenue to the seller will always be greater through tapping more of the consumer surpluses of each buyer.90 But if a buyer can buy more than one unit, revenue becomes a problem. For then each buyer, confronted with a higher price, will restrict his purchases. This will leave an unsold stock, which the seller will then unload by lowering his prices below the hypothetical uniform price in order to tap the demands of hitherto submarginal buyers. Thus, suppose that the uniform price of a good is ten gold grains per unit, at which a hundred units are sold. The seller now decides to isolate each buyer as a separate market and tap more consumer surpluses. Aside from the barely marginal buyers, then, all the others will find their prices raised. They will restrict their purchases, say to an aggregate of eighty-five units, and the other fifteen units will be sold by lowering the price to new, hitherto submarginal buyers.

Multiformity can be established only when total proceeds are greater than uniformity provides. This is by no means always the case, for the supramarginal buyers may restrict their purchases by more than the submarginal buyers can compensate.91

Multiform pricing has been accorded a curious reception by economists and laymen. In some cases it is deemed vicious exploitation of the consumers; in others (e.g., medicine and education) it is considered praiseworthy and humanitarian. In reality, it is neither. It is certainly not the rule in pricing that the most eager should pay in proportion to their eagerness (in practice, usually gauged by their wealth), for then everyone would pay in proportion to his wealth for everything, and the entire monetary and economic system would break down; money would no longer function. (See chapter 12 below.) If this is clear in general, it is difficult to see a priori why specific goods should be singled out for this treatment. On the other hand, the consumers are not being “exploited” if there is multiformity. It is clear that the marginal and submarginal buyers are not exploited: the latter obviously gain. What of the supramarginal buyers who are receiving less consumer surplus? In some cases, they gain, because without the greater revenues provided by “price discrimination” the good would not be supplied at all. Consider, for example, a country doctor who would leave the area if he had to subsist on the lower revenues provided by uniformity. And even if the good were still supplied, the fact that the supramarginal buyers continue to patronize the seller at all shows that they are content with the seemingly discriminatory arrangement. Otherwise, they would quickly boycott the seller, either individually or in concert, and patronize competitors. They would simply refuse to pay more than the submarginal buyers, and this would quickly induce the seller to lower his prices. The fact that they do not do so shows that they prefer multiformity to uniformity in the particular case. An example is private school education, which able but poor youths may often attend on scholarships—a principle that the wealthy parents who pay full tuition demonstrably do not consider unjust. If, however, the sellers have received grants of monopolistic privilege by the government, enabling them to restrict competition in the serving of the supramarginal buyers, then they may establish multiformity without enjoying the demonstrable preference of these buyers: for here governmental coercion has entered to inhibit the free expression of preferences.92

So far we have discussed price discrimination by sellers in consumers’ markets, where consumer surpluses are tapped. Can there be such discrimination in producers’ markets? Only when the good is not resalable, total proceeds are greater under multiformity, and the supramarginal buyers are willing to pay. The latter will happen when these buyers have a higher DMVP for the good in their firms than other buyers have in theirs. In this case, the seller of the good with multiform prices is absorbing a rent formerly earned by the supramarginal buying firm. The most notable case of such pricing has been railroad freight “discrimination against” the firms shipping a cargo more valuable per unit weight than that of other firms. The gains are not, of course, retained by the railroad in the long run, but absorbed by its own land and labor factors.

Can there be price discrimination by buyers when the good is not resalable (and ignorance among sellers is not assumed)? No, there cannot, for the minimum reserve price imposed by, say, a laborer, is determined by the opportunity cost he has foregone elsewhere. In short, if a man earns five gold ounces a week for his labor service in firm A, he will not accept two ounces a week (although he would take two rather than earn nothing at all) since he can earn nearly five ounces somewhere else. And the meaning of price discrimination against sellers is that a buyer would be able to pay less for the same good than the seller can earn elsewhere (cost of moving, etc., omitted). Hence, there can be no price discrimination against sellers. If sellers are ignorant, then, as in the case of the ignorant consumers at a bazaar, we must infer that they prefer the lower income to the cost and trouble of learning more about the market.

  • 89. See Wicksteed, Common Sense of Political Economy and Selected Papers, I, 253 ff.
  • 90. It is difficult to conceive of a case, in reality, to which such a restriction imposed on buyers (called “perfect price-discrimination”) would apply. Mrs. Robinson cites as an example a ransom charged by a kidnapper, but this, of course does not obtain on the free, unhampered market, which precludes kidnapping. Robinson, Economics of Imperfect Competition, p. 187 n.
  • 91. See Mises, Human Action, pp. 385 ff.
  • 92. An example is medicine, where the government helps to restrict the supply and thus to prevent price-cutting. See the illuminating article by Reuben A. Kessel, “Price Discrimination in Medicine,” The Journal of Law and Economics, October, 1958, pp. 20–53. Also see chapter 12 below on grants of monopoly privilege.