Price Discrimination

… a core concept in Economic Analysis and Atlas102

Concept description

Tyler Cowen (reference below, video on right) defines price discrimination as selling the same product at different prices.

Cowen sets out two principles of price discrimination:

• If demand curves are different, it is more profitable to set different prices in different markets – the price should be higher in the market with then more inelastic demand

• Arbitrage makes it more difficult to price discriminate. Cowen notes that smuggling is an illegal form of arbitrage and that in order to prevent illegal arbitrage in ethanol the government requires that producers of ethanol add poison to make it unsuitable for use in alcoholic beverages.

Cowen works through a number of common examples of price discrimination, and the strategies that the providers uses to distinguish among those classes of buyers who are likely to have different elasticities of demand.

The social welfare of price discrimination

In a second video (right) Cowen examines the social welfare of price discrimination and offers the following rules of thumb:

• If price discrimination increases output, it is likely to be beneficial
• If price discrimination does not increase output, social welfare is reduced

He illustrates this with a number of examples, including that of university net tuition, which allows close to Perfect Price Discrimination.

Practice questions

At http://www.mruniversity.com/node/301739 and http://www.mruniversity.com/node/301751, accessed 8 May 2016.

1. True or False? A business that price discriminates will generally charge some customers more than marginal cost, and it will generally charge other customers less than marginal cost.
   1. True
   2. False
2. Two customers, Fred and Lamont, walk into a Grady’s Used Pickups. Who probably has a more inelastic demand for one of Grady’s pickups: people like Lamont, who are good at shopping around, or people like Fred, who know what they like and just buy it?
   1. People like Lamont 
   2. People like Fred
3. Who probably gets charged more for a Hertz rental car: Someone who reserves a car online weeks before a trip, or someone who walks up to a Hertz counter after he walks off a 4-5 hour airplane flight?
   1. Someone who reserves the car online weeks before a trip
   2. Someone who walks up to a Hertz counter after a 4-5 hour plane flight
4. Where will you see more price discrimination: In monopoly-type markets with just a few firms or in competitive markets with many firms? 
   1. Monopoly-type markets 
   2. Competitive markets
5. When both kinds of people, the Convenience Shoppers and the Bargain Shoppers, are shopping at the same Wal-Mart, who is more likely to stick to their prearranged shopping list rather than splurging on something on a whim?
   1. Convenience Shoppers
   2. Bargain Shoppers
6. Which group does Wal-Mart have monopoly power over?
   1. Convenience Shoppers
   2. Bargain Shoppers
   3. Both 
   4. Neither
7. Does this mean that Darth Vader really did kill Anakin Skywalker?
   1. Yes 
   2. No
   3. It depends on your point of view
8. When arbitrage is easy in a market of would-be price discriminators, who is more likely to get priced out of the market: those with elastic demand or those with inelastic demand?
   1. Elastic demanders 
   2. Inelastic demanders
9. If Congress passed a privacy law making it illegal for colleges to ask for parents’ tax returns, would that tend to help students from high-income families or students from low-income families?
   1. Students from high-income families
   2. Students from low-income families
10. When will a monopoly create more output: When the government bans price discrimination or when the monopoly is allowed to and can perfectly price discriminate?
    1. When the government bans price discrimination 
    2. When the monopoly can perfectly price discriminate

Atlas topic, subject, and course

Monopoly and Price Discrimination (core topic) in Economic Analysis and Atlas102 Economic Analysis.

Source

Tyler Cowen, Introduction to Price Discrimination (10-minute video), Principles of Economics – Microeconomics, Marginal Revolution University, at http://www.mruniversity.com/courses/principles-economics-microeconomics/price-discrimination-examples-airlines-arbitrage, accessed 8 May 2016.

Tyler Cowen, The Social Welfare of Price Discrimination (8-minute video), Principles of Economics – Microeconomics, Marginal Revolution University, at http://www.mruniversity.com/courses/principles-economics-microeconomics/price-discrimination-social-welfare, accessed 8 May 2016.

Page created by: Ian Clark, last modified 8 May 2016.

Image: Tyler Cowen, minute 0.14 of Introduction to Price Discrimination (10-minute video), Principles of Economics – Microeconomics, Marginal Revolution University, at http://www.mruniversity.com/courses/principles-economics-microeconomics/price-discrimination-examples-airlines-arbitrage, accessed 8 May 2016.