Chapter 11 Price Discrimination

Definition of Price Discrimination Price discrimination refers to the situation where goods and services are sold to different consumers at varying ratios between marginal cost and price, i.e. P/MC is not constant. OR Price discrimination refers to the selling the same good (or service) to different consumers at different prices where such price differences are not caused by differences in costs.

What are the conditions necessary for price discrimination to take place? Monopoly power Separation of markets It must be possible to differentiate between consumers with different price elasticities of demand

Characteristics of Consumers That May Permit Price Discrimination to Take Place Consumer ignorance Consumer indifference Consumer attitude

Degrees of Price Discrimination First degree (perfect price discrimination):The seller knows the maximum price that each consumer is willing to pay rather than do without the good/service and charges that exact price, i.e. eliminates consumer surplus. Second degree: The seller lowers their price because the purchaser is buying a large quantity. This is related to the law of diminishing marginal utility and recognises that the consumer would only be prepared to buy more if unit selling price is reduced.

Degrees of Price Discrimination (Continued) Third degree: This occurs as the seller divides up the market on the basis of price elasticity of demand.

A Price Discriminating Monopolist Operating in Two Markets The monopolist will sell that quantity on both markets that will ensure that marginal revenues are equal, i.e. the last unit sold brings the same revenue (similar to the law of equi-marginal returns).

A Price Discriminating Monopolist Operating in Two Markets (Continued) The price-discriminating monopolist earns maximum profits as opposed to maximum revenue where MC = MR. Operating in two distinct markets, the firm will operate: Where MC = MR on the export market Where MC = MR on the home market