Question

Consider the following demand for Ross Home Accents’ handmade candles:

Q	P
1	38
2	36
3	34
4	32
5	30
6	28
7	26
8	24
9	22
10	20

Suppose the marginal cost of producing each candles is $10.

(a) Obtain the profit maximizing single price for Ross Home Accents’ candles and its profit.

(b) From the table above, calculate the consumer surplus obtained by consumers of Ross’ candles.

Explain why this consumer surplus constitutes a loss for Ross in the form of money left on the

table.

(c) Calculate the loss for Ross in the form of passed-up profit.

(d) Now, imagine Ross discovers that it has the technology to identify consumers and segment them

into separate groups and charge them different prices for its product. What kind of price

discrimination is Ross engaging in? Pick two possible different prices for two segments and

calculate the associated profit for Ross.

(e) Calculate the associated losses (money left on the table and passed-up profit).

(f) Explain the difference you observe between the losses obtained in (e) from price discrimination

and those in (b) and (c) when Ross charges a single price.

Answer 1

Answer (a) : The profit maximizing single price for Ross Home Accents’ candles will be the first candle which will be sold at $38.

                      And the profit here would be = $38 – $10

                                                                           = $28

                            This is because, Since the marginal cost of producing each candle is $10, and as per the table, we can see that as more and more units of candles are demanded in the market, the price per candle is getting reduced due to diminishing marginal utility. Hence the more the candles are produced, the lesser is the profit per candle. Here, the first candle is produced at $10 and is sold at $38, therefore gaining a profit of $28. The profit from all the other candles are lesser than $28

Answer (b) : From the above table, we can see that the consumers of Ross’ candles are ready to pay lesser and lesser for each additional candle they are demanding. When the quantity demanded reaches higher, for example quantity 8, 9 or 10, the consumer is only paying $28, $22 and $20 for that candle respectively. Here, the consumer may be actually ready to pay more, but since they are demanding more products, they do not want to pay more. Here, the difference between what the consumer is actually ready to pay, and what the consumer pays is the consumer surplus. This surplus is s benefit for the consumers.

                           The more the consumer surplus increases, the more it is a loss for Ross. This is because, he will then be required to sell off the candles at lesser and lesser profit. As can be seen from the table, as the quantity demanded reaches higher, for example quantity 8, 9 or 10, the consumer is only paying $28, $22 and $20 for that candle respectively, thereby Ross is incurring loss on each additional candle.

Answer(c) : The loss for Ross in the form of passed up profit is greater than the profit he has earned.

                         Here, by selling the first 5 quantities of candles Ross’ total revenue :

                                                        ( 38+ 36+34+32+30) – 50

                                                    = $ 170 - $ 50

                                                    = $120

                  &      the, by selling the first 5 quantities of candles Ross’ total revenue :

                                                        ( 28+ 26+24+22+20) – 50

                                                    = $ 120- $ 50

                                                    = $70

Therefore, Ross is making a loss of $120- $70 = $50 on the next set of five candles.

Answer (d) : If Ross charges different prices for the two separated groups of consumers, Ross is engaging In to Personal Price discrimination. Here, Ross is charging one price for one customer and another price for another customer.

                 Let us suppose for the two categories of Ross has 5 consumers each.

                For the first set of consumers Ross charges $38+ $36+$34+$32+$30 for the five consumers respectively

              & For the second set of consumers Ross also charges $38+ $36+$34+$32+$30 for the five consumers respectively.

                  Therefore, Ross makes a total profit of $120 + $120 = $240

Answer ( e) : If Ross makes a total profit of $240 , there is also some passed up profit which turn up as loss for Ross.

                    1^st Set: The loss will be = (No loss for the first candle-+($28-26) + ($28-24) ($28-22) + ($28-20)

                                                              = $ 20

                   2^nd Set: The loss will be = (No loss for the first candle-+($28-26) + ($28-24) ($28-22) + ($28-20)

                                                              = $ 20

Therefore, the total loss is $40.

Answer (f) : The difference between the loss in (b) and (c) and here, is that in the earlier case, Ross was encountering a much higher loss, because there was no division of consumers and he was incurring rising loss from the Second till the Tenth consumer. However, in this case, Ross is encountering a much lesser loss, because there is division of consumers and he is incurring comparatively lesser rate of rising loss from the Second till the Firth consumer in each set.