Transcript Price Discrimination - Abernathy-ApEconomics-MPHS

Price Discrimination
• Price Discrimination Defined
▫ Single-price monopolist
 A monopolist who charges everyone the same price.
 Not all monopolists do this.
▫ Price Discrimination
 Many monopolists find that they can increase their
profits by selling the same good to different
customers for different prices.
 Example: airline tickets
 This is seen not only in monopolies but also
oligopolies and monopolistic competition.
• The Logic of Price Discrimination
▫ Why is it more profitable?
 Example:
 Assume an airline offers the only nonstop flight
between Bismarck, ND and Ft. Lauderdale, FL. Also
assume no capacity problems (airline can fly as many
planes as the number of passengers warrants). Assume
no fixed costs. MC = $125 of providing a seat to
however many passengers it has.
 2 types of passengers: Business travelers and Student
travelers
▫ Business: 2000 want to travel each week between the two
destinations. Also business travelers need to fly and will
pay no more than $550. Assume that if the airline cuts the
price it will not lead to an increase in business travel.
▫ Students: 2000 want to travel each week between the two
destinations. Students have less money and more time and
will not pay above $150 or they will take the bus.
▫ Realistically there is some “give” in the demand of
each group.
 If price fell below $550, there would be some
increase in business travel
 Also at a price above $150 some students would still
purchase tickets.
▫ Both groups differ in their sensitivity to price.
 As long as different groups of customers respond
differently to price, a monopolist will find that it can
capture more surplus and increase its profit by
charging them different prices.
• Price Discrimination and Elasticity
▫ A more realistic description of demand a monopolist
face is to distinguish between different customers
based on their sensitivity to price (their price elasticity
of demand).
 Example: Business travelers vs. Student travelers
 Business travelers are very insensitive to price.
▫ There is a certain product they have to have whatever the
price, but they cannot be persuaded to buy much more than
that no matter how cheap it is.
 Student travelers are more flexible.
▫ Offer a good enough price and they will buy quite a lot; raise
the price to high and they will switch to something else.
• Perfect Price Discrimination
▫ Notice that there is no consumer surplus. The
entire surplus is captured by the monopolist.
 When a monopolist is able to accomplish this we say
the monopolist has achieved perfect price
discrimination.
▫ In general, the greater number of different prices
charged, the closer a monopolist is to perfect price
discrimination
▫ Two things become apparent
 The greater the number of prices the monopolist
charges, the lower the lowest price- that is, some
customers will pay prices that approach marginal
cost.
 The greater the number of prices the monopolist
charges, the more money extracted from customers
▫ a very large number of different prices, will result
in a case of perfect discrimination
 Every customer pays the most he or she can pay and
the entire surplus is extracted as profit.
▫ Monopolists do try to move in the direction of
perfect price discrimination through a variety of
pricing strategies.
 Advanced purchase restrictions:
 Prices are lower for those who purchase well in
advance.
 This separates those who are likely to shop for better
prices from those who won’t.
 Volume discounts:
 Often the price is lower if you buy a larger quantity.
 Two-Part Tariffs:
 In a discount club like Costco or Sam’s Club, you pay an
annual fee (1st part of the tariff) in addition to the price
of the item(s) you purchase (2nd part)
 So the full price of the item you buy is in effect much
higher than that of subsequent items, making the twopart tariff behave like a volume discount.
▫ Government policies often focus on preventing
deadweight loss, not preventing price
discrimination, unless it causes issues with equity.