Price discrimination is where a firm charges different prices for the same product to different consumers. The most common example is peak and off peak pricing for travel.
For price discrimination to work the following conditions are needed:
- Differences in price elasticity of demand between markets
- Barriers to prevent consumers switching between suppliers
Different Types of Price Discrimination
Perfect Price Discrimination
- This is where the firm charges whatever the market will bear.
- This means the producer can transfer all of the consumer surplus to producer surplus.
- This could hypothetically happen if a monopolist was able to segment the market precisely however it is very unlikely to occur in real life
Second Degree Price Discrimination
- Where packages of products that are surplus to requirements are sold at lower prices
- This often happens with last minute holiday deals where businesses are selling off their spare capacity to gain some revenue
- In the low cost airline sector firms operate a strategy opposite to this where the cheapest flights are those you book the furthest in advance
Peak and Off Peak Pricing
- This is where a different price is charged due to the time of day / year
- During peak times there is more demand for the product so higher prices can be charged – demand is likely to be more inelastic
- Examples of peak / off peak include rail travel, holidays and phone calls
Third Degree Price Discrimination
- Charge different prices for different products to different market segments Markets are usually segmented by time or geographical area
- E.g. having one price for the UK and one for the USA
Advantages of Price Discrimination
- Increases profit for the firm Increase in size of producer surplus
- Firms may be able to exploit economies of scale
- Can be used to cross subsidise goods with high social benefits
Disadvantages of Price Discrimination
- Reduction in size of consumer surplus
