a) The handset market within Sydney can be classified as a monopoly. Because Donna knows the exact willingness to pay for the handset she can set her price accordingly. Hence Donna should implement perfect price discrimination. By knowing the price, the seller is able to encapsulate the total market surplus, consequently diminishing all consumers’ surplus and converting it into revenues. On this notion, because the firm knows how much each consumer is willing to pay, they will maximise their revenues (See Figure 1) at the expense of setting their prices too high or too low. Moreover, setting one singular price will not differentiate consumers as well as improve profits substantially. In addition, from a social welfare perspective, first degree price discrimination is not necessarily undesirable because the market is completely competent and there is no deadweight loss to society.
b) Contrary to the above scenario, Donna does not know every consumer’s willingness to pay. However, the structure of the market is still a monopoly. Donna should choose to implement second-degree price discrimination. According to Taylor and Frost (2009), to discriminate between buyers “it is optimal to charge a lower price to the high-elasticity group and a higher price to the low-elasticity group,” thus enabling firms to maximise revenues. The information that Samsung needs to obtain in order to execute this pricing strategy are, according to Dixon and O’Mahony (2009), the price of the good itself, the price of substitutes and complements, expected future prices, consumer preferences and levels of income. This can be conducted through research and development in addition to quantity discounts, quality/price tradeoffs, timing of sale and cheaper prices at certain times (Wait 2012).
c) The presence of the IPhone changes Samsung’s pricing strategy substantially. This is where game theory is applicable and the market structure of a duopoly is apparent. If both companies decide to set a high price then this may be above consumer’s willingness to purchase the good. However, if the IPhone decides to act first and charges a higher price, then this is an incentive for Donna to charge a lower price than the Iphone, whilst still charging a lower price than consumer’s willingness to pay for the IPhone. Consequently, consumers will be disregard the Iphone, and opt for the substitute good of the Samsung at a much cheaper price. In addition, in part b, the presence of the IPhone changes Samsung’s pricing strategy considerably. Contrary to part a, Donna does not know the consumers’ willingness to pay for the good. Subsequently, the pricing strategy needs to be in accordance to IPhone’s pricing strategy. According to McAfee (1996, p.6) in this scenario, “a minimum price should be set, high enough to force a high bid but not so high that no one is likely to bid,” however, undertake extensive research through “traditional methods of market research include(ing) surveys, focus groups, and pretest markets” (McAfee 1996, p.6) must be undertaken.