A restaurant has three types of customers. A third of its customers, Type A, are
ID: 2599953 • Letter: A
Question
A restaurant has three types of customers. A third of its customers, Type A, are willing to spend $5 on an appetizer but only $2 on a desert. Another third, Type B, are willing to spend $4 on an appetizer and $3 on a dessert. The remaining third, Type C, are willing to spend only $2 on an appetizer but $6 on a dessert. It costs the restaurant a constant $2 to prepare an appetizer or a dessert.
Which is the optimum pricing strategy for the restaurant if it can perfectly price discriminate? What will be the restaurants profit and social welfare in this case?
Explanation / Answer
A third of its customers, Type A, are willing to spend $5 on an appetizer but only $2 on a desert.
Another third, Type B, are willing to spend $4 on an appetizer and $3 on a dessert.
The remaining third, Type C, are willing to spend only $2 on an appetizer but $6 on a dessert.
It costs the restaurant a constant $2 to prepare an appetizer or a dessert.
The optimum pricing strategy for the restaurant is first degree price discrimination. Perfect price discrimination is where you charge each group of customers a different price that they are willing to pay.
For instance, in the given case, the restaurant will charge type A, type B and type C customers at the prices they are willing to pay respectively. In this manner, it can capture additional profist in the form of consumer surplus.
The profit of the restaurant will be the difference between the prices customers are willing to pay and the cost to the restaurant.