What is price discrimination? Price discrimination is the practice of selling the same product to different buyers (or groups of buyers) at different prices.
Examples of price discrimination Airlines charge full fares to business travelers, whereas they offer discount fares to vacationers. Sizing up their income pricing by dentists, plumbers, and auto mechanics. Publishers of academic journals charge higher prices for library as compared to individual subscriptions. Senior citizen discounts. Discounts for new buyerse.g., magazine subscriptions. Theater ticket pricing
When is price discrimination feasible? 1.The seller must be capable of identifying market segments that differ based on willingness to pay, or elasticity of demand. 2.The seller must be capable of enforcing the different prices charged to different market segmentsthat is, the seller must be able to prevent arbitrage.
1 st degree price discrimination Sometimes called perfect price discrimination, the seller charges each buyer their reservation price for every unit purchased. Reservation price is the maximum price a buyer is willing to pay rather than go without the last unit of the good.
Auctions Auctions are designed to force buyers nearer to their reservations prices.
3 rd degree price discrimination This is the practice of charging different prices in different market segments
Examples of market segments Business travelers versus tourists. Kids versus adults Those covered by health insurance and those not covered. Senior citizens versus everyone else. Mercedes Benz owners versus Chevrolet owners. Domestic versus foreign buyers
Multinational pricing of autos The problem for a car manufacturer is to establish profit-maximizing prices on cars sold domestically and in the foreign market segment
The Demand Functions The inverse demand equation for the home (H) market is given by: Where P H is the price charge in the home market and H is the quantity sold in the home market The inverse demand equation for the foreign (F) market is given by:
30,000 60 0 Quantity Price 25,000 Home Foreign 35.7 The demand for cars
30,000 60 0 Quantity (000s) Price DHDH 30 Profit maximization in the Home segment MR H MC H 10,000 20,000 20 To maximize profits in the Home segment, set MR H = MC H
18,000 60 0 Quantity (000s) Price 25,000 DFDF 35.7 Profit-maximization in the foreign market segment MR F MC F 11,000 10 To maximize profits in the Foreign segment, set MR F = MC F
Summary Notice that the price is higher in the Home market where the manufacturer faces a less elastic demand curve