price discrimination

• what is price discrimination?

  Price discrimination occurs when a firm charges a different price for the same good/service in order to maximise its revenue
• what are the types (degrees) of price discrimination?

  first degree

  second degree

  third degree
• what is first degree discrimination?

  • First degree discrimination occurs when a firm separates consumers based on their ability to pay. E.g Market traders can often easily identify high worth customer and double the price of the product offered - especially in situations where the product prices are not displayed
• what is second degree discrimination?

  • Second degree price discrimination occurs when a firm gives discounts for bulk buying, e.g 3 for 2 offers 
• what is third degree discrimination?

  • Third degree price discrimination occurs when a firm charges different prices to different consumers for the same good/ service, e.g. rail fares are priced differently depending on the time of travel
• third degree markets can be subdivided based on?

  time, age, income and geographic location
• what are the conditions required for price discrimination to occur?

  market power

  varying consumer PED

  ability to prevent resale of tickets
• whys must a firm have market power for price discrimination?

  • The firm must have the ability to change prices and it works best when there are no/few substitutes
• why must a firm have varying consumer PED for price discrimination?

  • Some consumers must be willing to pay more, and the firm must be able to identify these different consumer groups i.e. split the market into sub-markets
• why must a firm have the ability to prevent resale of tickets for price discrimination?

  • It must be able to prevent consumers buying in the low-price sub-market and reselling in the higher ones
• what is total profit?

  combination of profits from the sub-markets
• what is the revenue rule?

  in order to maximise revenue, a firm should increase its price for product that is inelastic in demand and decrease its price for a product that is elastic in demand
• what does this graph show about third degree price discrimination?

  • A higher price for peak travel has been set at Pa & a lower price for off-peak travel has been set at Pb
  • Following the revenue rule, total revenue increased in both markets
  • The profit for sub-market A = (Pa-C1) * Q1
  • The profit for sub-market B = (Pb-C1) * Q2
  • The firm's total profit is the average selling price - the average costs
  • Total profit = (Pt-C1) * Q3
  • The firms' total profits are higher than if they had charged a single price to all customers 

  
• what is the advantages of price discrimination?

  • Many consumers will lose out as they pay higher prices
  • Other consumers will benefit as they will be able to take advantage of the lower prices
  • Some consumers will gain as a higher price decreases the quantity demanded, and in some markets this can increase consumer utility
  • E.g. On train services it helps limit over-crowding
• what is the disadvantages of price discrimination?

  • The total revenue of producers increases leading to higher profits
  • Firms increase their producer surplus at the expense of a decrease in consumer surplus
  • Setting up and enforcing price discrimination can increase average costs