On Off‐Peak Pricing: An Alternative Solution

Oscillation in demand, and sales irregularity, is not an uncommon phenomenon; it occurs in the restaurant trade, retail stores, holiday resorts, in the use of recreational facilities, etc. But the economic problem is usually discussed in the context of public utilities, especially in the demand for electric power where an independent peak and off‐peak demand arises and different prices are charged. The varying prices are attributable ultimately to the presence of heavy capital costs and (relatively) unimportant variable costs. Further, as a precondition, it is essential that the user‐costs of equipment be nearly nominal; otherwise there would be no point in using equipment to sell output at moments of low demand and low price. Given these conditions the peak‐off‐peak problem arises. Steiner, in a major article, distinguishes two cases: (1) a ‘shifting’ peak, and (2) a ‘firm’ peak. In the former case output is uniform at both ‘hours’ but price is different, according to his solution. In the ‘firm’ peak, price at the peak‐hour covers the full capital costs; at the off‐peak hour the price is zero and the capacity output is not fully absorbed. Steiner's solution for the ‘shifting’ peak is criticized for uniform output requires emergency stand‐by capacity. This may render his price policy uneconomic. For the ‘firm‐peak’, Steiner has rejected his own logic of uniform output by his intuitive refusal to accept a negative price. Nevertheless, his solution involves a ‘give‐away’—meaning that output is handed over free to off‐peak users. This ‘free‐ride’ outcome is indefensible on equity grounds; it negates some basic relations in an economy based on private property. The proposal suggested here is that the proper pricing policy should seek to maximize the sum of peak plus off‐peak output. In this solution both groups can benefit. As an important virtue in the public utility sector the policy is easy to explain. Further, if it is somewhat compromised on allocational grounds, it possesses important merits from an equity standpoint.