Thursday, September 27, 2007

Why Do Firms Give a 10% Student Discount?

Many firms such as: HMV, Top Shop, Virgin give students a 10% discount.

Is this discount an act of charity for poor students? Or is it a very clever strategy to increase profits?

The first thing to consider is the price elasticity of demand by students. Generally students have lower incomes, therefore, they are more sensitive to changes in price. Demand for CDs, and clothes are likely to be price elastic. This means a cut in price causes a bigger % increase in demand. If this is the case, a fall in price can increase a firm's revenue.

Diagram for Elastic Demand

However, the general market for CDs is likely to be more inelastic. - Working adults have more disposable income, therefore, they are less sensitive to reductions in price. If you reduced price for this group of consumers demand is likely to be inelastic, with only a small increase in demand.

Therefore, the best strategy for a firm is to cut prices for the student group (with elastic demand) but keep prices high for the other group.

This of course is an example of Price discrimination and is a way for firms to increase profits.

Cutting prices for students is also a good advertising strategy. It gives a reason to attract students into the shop, it may create brand loyalty over time. But, the main reason is due to the different elasticities of demand.

1 comment:

Rebacca Wilde said...

Its a 3rd Degree price discrimination :)