Price Discrimination, Airline Industry Essay

Words: 2899
Pages: 12

Same point of departure, same destination, the same snacks. Why is it people sitting next to each other on the same flight can pay such different amounts for their tickets? Airline pricing seems to be a great mystery. The airline industry refers to their pricing game as “yield management” or “revenue management.” Meaning prices on the same plane can fluctuate widely based on available seats at the time of purchase. Even though this seems to defy logic (and textbook theory), there might just be a method, an algorithm, to the madness. In a perfectly competitive market, companies would have no power to discriminate by price. Price discrimination means that one is charging different prices to different consumers, whereby price cannot …show more content…
For example, it would cost $1000 for a Y class product that can be purchased at any time, has no restrictions, and is fully refundable. Or, it may cost a customer $200 for a Q class product which requires a three week advanced purchase, a Saturday night stay, and penalties for changing the ticket after purchase. Service providers, like the airlines, face the problem of effectively utilizing a fixed capacity under certain or high demand in order to maximize revenue. Yield management is a form of price discrimination that allows airlines to maximize profits and create economic efficiencies that would otherwise be elusive. This technique is most useful when two product characteristics co-exist. First, the product expires at a point in time, like airline flights. Second, capacity is fixed well in advance and can be augmented only at a relatively high marginal cost. These characteristics create the potential for very large swings in the opportunity cost of sale, because the opportunity cost of sale is a potential foregone subsequent sale. The value of a unit in a shortage situation is the highest value of an unserved customer. Forecasting this value given current sales and available capacity represents dynamic pricing or yield management. Despite the frustration with airline pricing, we may be better off because yield management exists. Airlines rely on supply-and-demand to generate different prices for the same service.