The Positive Side to Price Discrimination

Price discrimination gets a bad rap.

Google the phrase “price discrimination” and you’ll find articles on large health, entertainment, insurance and even mail companies being investigated for illegal price discrimination —  i.e., the practice of charging different price points to different customers for the same product.

The word discrimination itself is loaded. It's a term many Americans associate with unfair treatment, such as racial or gender discrimination. However, there's a positive side to price discrimination.

If your company has offered a discount to students, then it's participated in price discrimination. If you've ever gone to a wholesale retailer to buy items in bulk at a lower unit cost, then you’ve experienced the benefits of price discrimination. If your child received in-state tuition from a college or university, then your family has benefitted from price discrimination.

In fact, price discrimination can increase access to goods and services for all consumers. Classic examples include rural health clinics that charge affluent consumers full price but provide free or subsidized services to less affluent consumers that need access to medical care; colleges that charge affluent families full tuition but provide financial assistance to less affluent families that wouldn't otherwise be able to afford the cost of tuition; and software companies that charge enterprise organizations full price but provide discounts to startups and non-profits. Generally speaking, the practices described above are neither illegal nor are they perceived as unfair by the vast majority of consumers.

Price discrimination gets a bad rap when consumers feel that they're being gouged. For example, when Coca-Cola decided to test a smart vending machine that raised prices as the temperature increased, Pepsi responded with this statement: “We believe that machines that raise prices in hot weather exploit consumers who live in warm climates.” Another industry executive commented, “What’s next? A machine that X-rays people’s pockets to find out how much change they have and raises the prices accordingly?”

Consumers can be irrational when it comes to price discrimination. Subsidizing education for less affluent students is a relatively noncontroversial topic, but if a merchant quadrupled the price of a shovel after a blizzard then consumers might react angrily. What's not in dispute is that price discrimination is profitable — merchants can make more money by adjusting prices based on a consumer’s willingness to pay. The challenge is how to implement a profitable pricing strategy to different market segments without experiencing backlash against the brand.

While consumers are generally hostile towards pricing strategies they perceive as exploitative — usually when price points go up in certain situations or to certain types of consumers — they don't tend to react with hostility towards programs targeted at communities where a lower price point is offered to a member of a group such as a student, military service member or teacher. Consumers seem to regard these programs as fair.

And being fair is extremely important to consumers. In the 1982 original “Ultimatum Game” researchers Werner Güth, Rolf Schmittberger and Bernd Schwarze discovered people are motivated more by fairness than rationality. Participants in the groundbreaking study declined free money, sometimes thousands of dollars, if they felt the situation was inequitable. The results have held across subsequent studies in different countries and contexts.

In fact, consumers are actually likely to increase their support for a brand if they also support the community that the brand is recognizing with a discount. Consider this statistic from the 2014 Bob Woodruff Foundation report: 85 percent of millennials, 88 percent of generation X’ers and 92 percent of baby boomers agreed with the statement, “I support brands that support veterans.”

Communities are powerful channels for brands to activate because, by definition, they're composed of tightly knit social networks. Humans love to share information; it’s an intrinsic part of our nature, so those connections are primed to drive positive word-of-mouth about your brand’s loyalty program.

Many retailers have long employed segmented pricing strategies based on group affiliation through their brick-and-mortar stores. Look at AAA or AARP member discounts at hotels, military discounts at hardware stores, or student and senior discounts at the movies. Through these relationships, brands have attracted new customers and increased their sales by building relationships with communities.

My favorite professor at Harvard Business School liked to say, “marketing is where business meets people.” And people base their identity upon the groups they belong to — their alma mater, their work place, their hobbies, the teams they root for, the state they're from, their families, etc. Since consumers identify as members of groups, brands have an opportunity to establish authentic relationships with the communities that are most closely aligned with their offering and values while increasing profits and making customers happy. Sounds like a good deal.

Blake Hall is the CEO of ID.me, a digital identity network and omnichannel solution provider that delivers real-time verification of consumer identity and group status with bank-level encryption.