Effects of the point system on consumer welfare

Abstract

This paper examines the effect of retailers’ introduction of a point system on consumer welfare. Retailers sell at the listed price to consumers who do not use points and sell at a substantially lower price to consumers who do use points. In other words, the point system is a third-degree price discrimination. In addition, retailers pay a percentage commission on the retailer’s sales under point system. This commission has a similar role as sales tax. Therefore, the effect of introducing a point system is a combination of price discrimination effect and commission effect. In the price discrimination effect, the consumer surplus of point users increases, while the surplus of consumers who do not use points decreases. Also, the total profit of the retailer will increase, but the total consumer surplus will decrease. The commission effect raises the actual price of point users and reduces their welfare level while at the same time decreasing the retailer’s profit. Given these two effects, the welfare of consumers who do not use points and total consumer surplus will decrease. In addition, if the percentage of point users is high and the commissions are high, the welfare of all consumers may be worsened.