Differential Pricing and Efficiency

Abstract

The classic prescription for economically efficient pricing---set price at marginal cost---is not relevant for technologies that exhibit the kinds of increasing returns to scale, large fixed costs, or economies of scope found in the telecommunications and information industries. The appropriate guiding principle in these contexts should be that the marginal willingness to pay should be equal to marginal cost. This condition for efficiency can be approximated using differential pricing, and will in fact, be a natural outcome of profit-seeking behavior.