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Privacy Incursions to Support Price Discrimination
An anonymous reader writes "BusinessWeek has an interesting interview with academic Andrew Odlyzko about how increased corporate spying will inevitably lead to targeted pricing and how this system can be abused." The paper (pdf) makes interesting reading. Very good insights into the reasons why businesses want to get to know you.
Price fixing is when multiple suppliers get together and artificially raise the price of an item to the market as a whole. Price descrimination is a different animal entirely.
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Expert Andrew Odlyzko explains how tech advances are making it much easier to charge one price for you and another for your neighbor
Why do corporations want your personal data? The simple answer, according to Andrew Odlyzko, the director of the University of Minnesota's Digital Technology Center, is that such information is the key to a holy grail of capitalism: discriminatory pricing.
Economic theory posits that price discrimination -- where companies charge individuals based on their ability to pay and their value as a customer -- is desirable since it makes trade more efficient. Yet it rankles consumers, who perceive differential pricing as unfair. The fact that business travelers, whose corporations can arguably afford it, pay more for airline seats than a vacationer has made air travel more popular and routine. At the same time, the price discrimination that charges two people different prices for the same class of service infuriates those who pay more.
In a paper to be presented at the Fifth Annual Conference on E-Commerce this fall, Odlyzko, a Bell Labs researcher for 26 years, doesn't argue for or against discriminatory pricing. He focuses on how technology can bring it to new levels of sophistication and prevalence.
In 2000, Coca-Cola (COK ) tested a vending machine that would raise prices on a hot, humid day and lower them when temperatures fell. Today, Amazon.com (AMZ ) knows what, when, and how often customers buy and is experimenting with offering personalized bundles -- buy two books and get a discount, for example -- to induce people to buy more. Twenty years ago, neither experiment would have been possible.
Managers who invest in privacy-eroding data-collection technology aren't always conscious that they're moving toward a world of widespread discriminatory pricing, Odlyzko says. Rather, they're trying out ways to use information to increase profits. But as corporations become more sophisticated in collecting and parsing consumers' personal information, success will lead them to more pervasive price discrimination. On July 28, I talked to Odlyzko about how data is being used to usher in a more efficient -- and privacy-invasive -- economy. Edited excerpts follow:
Q: Your paper posits that private companies now have both greater incentive and ability to discriminate on pricing by collecting and analyzing customer data. How so?
A: The greater incentive comes from the fact that in an information economy, an increasing fraction of the costs is fixed. It costs a large amount to create and market a movie, but very little to distribute it to a theater and on-demand to a customer at home. But different customers are willing to pay different amounts for the privilege of seeing a movie.
In the last issue of BusinessWeek, there was a letter from a reader who advocated that Hollywood should start by charging $30 to see a new release at home, then reduce the price to $5 over time. He said he would happily pay $30 to see a new movie at home because it costs him $75 to see a movie in the cinema -- after he pays for the babysitter and popcorn and tickets.
So here's one guy who says he's willing to pay $30 because that's much less than what he's currently paying to see a new release. On the other hand, you've got teenagers and adults who like the social atmosphere of a movie theater, the wide screen, etc. For them, you have to induce them to stay in and watch the movie, rather than going out, by offering them very low prices, maybe $3. If you can do both without getting them upset, then society wins.
Q: So why does differential pricing upset customers?
A: There's this central issue of fairness that comes up. People are very concerned that they'll pay more than someone else and be played for a fool.
That's what we dislike about having to deal with the salesman in the car-buying process. That's why people got angry enough to file lawsuits when they observed that catalog companies had been offeri
The easy solution to this though is to simply not let the companies gather any information about you. For example, if you are a businessman, they will try to charge you more for airfare. Whereas, if they no nothing about you, they will assume that you are just a vacationer, and you can get a cheaper fare. It's all about working the system.
Price discrimination by itself is totally legal; in fact, it is almost always economically efficient, so that some otherwise possibly illegal acts (subject to "rule of reason" antitrust analysis) can be legal if they enhance price discrimination.
On the other hand, in conventional economic models at least, the existence of price discrimination is evidence that someone has market power and so should be subject to antitrust scrutiny. But, of course, there are lots of legal ways to have a monopoly (own IP, just happen to make the product better than anyone else...)
I Can't Believe It's A Law Firm, LLP does not necessarily endorse the contents of this message.
It's not illegal, and it's not price fixing (setting prices above a competitive level). Levels of (2nd degree) price discrimination (although supported by limited quality differentiation) are widely practiced by airlines (last minute business traveler fares anyone?).
In fact it has been attempted on a consumer-by-consumer (3rd degree) basis by Amazon not too long ago. What happened is people found out through discussion in forums, consumer outcry followed and Amazon stopped it (search for the articles/blogs if you want).
It is not at all similar to price fixing. Price fixing occurs if competitors get together and agree on a price for their product. Therefore, competition is eliminated. This is a cartel and illegal under all antitrust laws know to me. Price fixing also occurs in other circumstances, when, for example a producer sets a minimum (or maximum) price at which a retailer is allowed to sell its product.
On the other hand, a company is price discriminating if it sells the same product at different prices. In many circumstances, this is entirely legal.
Why price discriminate?
Imagine a company selling product X. There are three different consumers, A, B and C. A values X at EUR50, B at EUR100 and C at EUR200.
In a market where the company is unable to distinguish these customers, it can only sell the item to each customer at the same price. If it sells at EUR50, all three customers will buy, if it sells at EUR150, only customer C will buy.
Therefore, the company has every incentive to price differentially, optimally EUR50 to A, EUR100 to B and EUR200 to C.
Two problems: (1) The company will have to find out about the valuations. (2) The possibility of trading amongst the customers limits price discrimnation (A buys at EUR50 and sells on to C at a higher price).
(1) is usually not solved perfectly. Price discrimination is usually applied across different groups that can be identified (ie customers in country A vs customers in country B or students vs non-students). However, the article describes how technology can be used to achieve perfect price discrimination.
(2) Either the characteristics of the product are such that trading is impossible (ie personalised products) or difficult (high transaction costs). Alternatively, the company could prevent trading by using contracts or other competitive threats. This could be illegal under some circumstances.
Discrimination against the "protected classes" (age, race, gender, etc.) is illegal, but any other form of price-setting is perfectly legal. The McDonald's in NYC has always charged more than the McDonald's in small-town USA, and Walmart is known to have different prices in its stores based on the existance (or lack of) local competition in the area.
Amazon.com tried this scheme before, offering the same item at different prices to different people to test reactions, but ended up embarassed when caught and refunded all those unknowingly involved in the test the difference between the price they paid and the lowest price that item was sold at during the test.
It's not price fixing... that's when the supposed competitors get together and agree on the price.
Rip the system.
I filled out my super-duper-saver card with false info. I get my Mountain Dew on the cheap, they get broken demographic data.
I giggle every time they swipe that thing. It's just such a sham.
Mr. Odlyzco states that: "Economically, price discrimination is regarded as desirable."
Hoo boy, Where did that come from? Not only is that statement wrong, it is so fundamentally wrong I can't believe that anyone would interview this guy (obviously they haven't published his paper).
All beneficial aspects of market economics is based upon a "market clearing price." The "efficient market" is based upon a market like the New York stock exchange. The market clearing price is what drives down prices, and gives us what is called the "consumer surplus."
Price discrimination only results in higher output for a monopolist--because the monopolist makes his profit from restricting supply. The highest output is always achieved from a perfect market in which the price is driven down to the marginal cost per unit.
Only a monopolist can engage in true price discrimination, but all vendors wish to create "limited" monopolies and get price discrimination to certain degrees. Limited monopolies can be created through brand IDs, location, government franchise, patent and copywrite, being first to market, and so forth.
Price discrimination in airline fares is a complex intertwining of federal governement regulation, local airport regulation, kickbacks (where the flyer is not paying the fare), obfuscation and fraud.
If price discrimination were the rule, we would pay more for water than we do for wine. Every life-saving or limb saving medical operation would require the patient to file bankruptcy and pay every penny to the hospital because bankruptcy would always be preferable to losing an arm.
No prices would ever be posted anywhere. We would negotiate the price of every single purchase--including every hamburger and every Coke (his example).
It is this bleak vision that lead to over half of the world choosing communism in the first half of the century. It is the open market, that gives us our prosperity.
The issues of price discimination, monopolies and limited monopolies are so well documented that it is puzzling that Business Week would even think it worth while to interview this guy. In any case, it is pretty clear that after taking Econ 101, Mt. Odlyzco dropped out halfway through econ 102
The tourist McDonalds has no Value Menu; the regular one does. This is common practice, and it is up to the consumer to avoid rip-offs.
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Together, we will drive the rats from the tundra.
My point is simply that discrimination against certain groups is taboo, and will not soon be tolerated regardless of whether it is statistically justified. This is obvious from the anti-discrimination laws themselves, which make no allowance for discriminating on the basis of statistics.
> Heck, I have a different email address for everything I sign up for online, why not have a different credit card for each merchant? :)
:)
I know you ask in jest, but for those who don't know the right asnwer, here's why:
BAD CREDIT RATING!
I have just requested my credit report this year, and in the list of parameters affecting your credit rating with major credit bureaus is "excessive lines of credit". It is HIGHLY recommended not to keep too many open credit cards if you want to have a good credit rating (for when you move out of Mom's basement and buy a house from all those dot-bomb money you didn't make so you need a mortgage
-DVK
"The right to figure things out for yourself is the only true freedom everyone shares. Go use it"-R.A.Heinlein
I think that this is fundamentally different to discrimination based on attributes that are directly related to the activity such as ability to pay and desire to acquire.
The ultimate aim of price discrimination is to have people pay the exact amount that represents the tradeoff between desire to have and ability to pay irrespective of race, gender, sexual orientation or physical or mental disabilities. In the examples given by you effective price discrimination would actually allow poorer people to pay less than richer people. This is achieved in real life by way of scholarships (for education) , soft loans, and other welfare type benefits (even as far as food stamps) that 'usually' only go to the poorer members of society.
Price discrimination works both ways. It is in fact particularly beneficial for poor people. Selling drugs to poor countries at lower than US prices is price discrimination. Selling cars for $500,000 to rich people is price discrimination.