Price Discrimination and its Effects on Efficiency in Monopolistic Markets

Discrimination is never considered a good thing, is it? Discriminating based on race, gender, or age is usually frowned upon. But in the business world, it is all too common. Consider some of the following example of price discrimination by businesses:

  • Movie theaters: Charge different prices based on age. Seniors and youth pay less since they tend to be more price sensitive.
  • Gas stations: Gas stations will charge different prices in different neighborhoods based on relative demand and location.
  • Quantity discounts: Grocery stores give discounts for bulk purchases by customers who are price sensitive (think “buy one gallon of milk, get a second gallon free”… the family of six is price sensitive and is likely to pay less per gallon than the dual income couple with no kids who would never buy two gallons of milk).
  • Hotel room rates: Some hotels will charge less for customers who bother to ask about special room rates than to those who don’t even bother to ask.
  • Telephone plans: Some customers who ask their provider for special rates will find it incredibly easy to get better calling rates than if they don’t bother to ask.
  • Airline ticket prices: Weekend stayover discounts for leisure travelers mean business people, whose demand for flights is highly inelastic, but who will rarely stay over a weekend, pay far more for a round-trip ticket that departs and returns during the week.

Price discrimination occurs any time a firm with market power charges different prices to consumers based on their willingness to pay or their sensitivity to price changes.

The results of price discrimination are not all bad, either. In fact, such practices usually result in a higher level of output than would be achieved if a firm charged a single price to all consumers. As a result, more people can afford to buy the good in question and a greater level of allocative efficiency is achieved.

This lesson will define price discrimination, outline the conditions necessary for it to occur, and explain the different degrees of price discrimination. We will then illustrate the effect of perfect price discrimination and attempt to conclude whether or not it is good overall for society by looking at the effect it has on consumers and producers.


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