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Economic News, Data and Analysis

Mean Vending Machines

This past weekend the news wires were all buzzing about the latest idea
to come from the world of soft drinks. Coca-Cola is apparently considering
creating a new kind of vending machine that would test the outside temperature
and adjust the price of a can of soda upwards when it is warmer outside.

Here’s some of the typical reactions to the idea:

“a cynical ploy to exploit the thirst of faithful customers”
(San Francisco Chronicle)

“lunk-headed idea”, (Honolulu Star-Bulletin)

“Soda jerks” (Miami Herald)

“latest evidence that the world is going to hell in a handbasket” (Philadelphia
Inquirer)

“ticks me off” (Edmonton Sun)

What did they think the Coca-Cola company was doing anyway? Selflessly
providing the world with a glorious beverage to further the goals of all
mankind? Why should all these people be suddenly offended by a company
trying to maximize profits?

“Price discrimination” is the term economists use to describe the practice
of selling the same good to different groups of buyers at different prices.
In the Coke case, the groups of buyers are segmented by the outside temperature
(i.e. Jill when it is hot outside vs. Jill when it is cold). If possible,
a company would like to charge a high price to those who place a high value
on the good, while charging less to those that do not.

So, are you personally offended by Coke’s plan to charge more for soda’s
when it is warm outside? Well, you had better get over it pretty quickly,
there is already plenty of price discrimination out there, and there is
MUCH more to come.

Rampant Price Discrimination

Price discrimination is quite common. Ever wonder why hardcover books
are produced first and are so much more expensive than paperback books?
Or, why it is so much cheaper to buy airline tickets far in advanced? Or,
why there are student discounts? Or, why matinee prices are cheaper for
movies? Ever tried to buy a soda from a vending machine at a hotel or at
a movie theater?

All these examples are attempts by sellers to charge different people
different prices for the same good.

Much of the price discrimination in the economy may in fact be quite
hidden. How do you know that the Crate and Barrel catalogue you just received
has the same price for you as for someone living in another zip code? Perhaps
those with a 90210 zip code see higher prices on their catalogues.

Why is the Vending Machine different?

In principle, the temperature sensitive vending machine is no different
from any other form of price discrimination.

Although, I do think the idea that the process is automatic generates
some additional discomfort – it is the idea that technology can effectively
gauge our buying interests. The heat sensitive machine is a small step
toward applying machine “intelligence” to profit maximization.

If you think that the vending machine idea is worrisome, just wait –
the internet will be the most sophisticated price discriminator the world
has ever seen. Smart vending machines will be the least of your worries.
Online vendors such as Amazon.com may know quite a lot about you – your
past purchasing habits, your internet preferences, your zip code, etc, 
– and they may want to use this information to adjust prices. Did you buy
a Stephen King book last month? Maybe you’d like to buy another, more expensive,
Grisham novel this month with a smaller “discount” chosen just for
you.

The internet is much better than the “real world” at price discrimination,
because it is so much easier to change prices. In fact they can set a price
just for you. It’s hard to imagine a traditional store doing this (“Hey,
here comes John. Quick, raise the price of the new Krugman Book.”). But
for an on-line e-commerce store, this is feasible and, with a clever programmer
on the payroll, quite easy.

Not all bad: Discrimination means increased efficiency

Actually, price discrimination can actually increase the overall efficiency
of a market.

A loss of economic efficiency may occur when a company has some abililty
to set prices and there is no discrimination. The seller must pick a price
that balances their desire to charge a high price to those that really
want a product, with their desire to sell a higher overall quantity to
those that are not willing to pay very much for it. Because of this, there
are trades which would benefit both buyer and seller that do not happen
– the resulting price is “too high” and the total quantity traded is “too
low”.

By identifying individual groups of consumers, a seller can provide
an additional unit at a lower price to someone who before would have been
priced out of the market. The company would now be willing to do this since
they would not have to sacrifice profits by lowering prices for the high-demand
group.

In the Coke case, some consumers – those who drink Cokes on hot days
– will be worse off since they must pay a higher price, while some consumers
– those who drink Coke on cold days – will be better off since they
will receive a lower price. The Coca-Cola company, of course, will be better
off.  The sum total will be positive (pick your favorite Introduction
to Economics textbook to see why).

Would you really be as offended if it was described as a discount on
cold days?

So, if you are still stewing about the potential of higher Coke prices,
I suggest you stock up the refrigerator and put some of that retirement
money into Coca-Cola stock.

Comments?
Is Coke evil? Post in the Forum.


More Features

More Links

Veja, a Brazilian magazine initially got the ball rolling when it published
details of the new machine from an interview given by Doug Ivester, Coke’s
chairman. Here is a sampling of the stories and commentary that followed.

Coke’s
Automatic Price Gouging


Have
a Coke, and Big Brother is sure to smile


The
Irish Times – Coke’s chilling concept


Coke:
Itís the real (greed) thing


Miami
Herald: `Soda jerks:’ Coke tests machine that raises prices in hot weather


Toronto
Star: News Story: Some like it hot at Coca-Cola – October 29, 1999


Edmonton
Sun – Greg gets peeved

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Filed under: Microeconomics

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