Price Discrimination

Price discrimination means charging different prices not fully explained by cost differences. It requires market power, information that distinguishes willingness to pay, and limits on resale or arbitrage.

Common forms include:

• First degree: charge each buyer close to individual willingness to pay.
• Second degree: prices depend on quantity or chosen package, such as volume discounts.
• Third degree: identifiable groups face different prices, such as student and business subscriptions.

Choosing group prices

For separated groups, the firm applies $MR_i=MC$ in each market. A group with less elastic demand generally faces a higher markup. This does not mean every observed discount is discriminatory: lower service cost, timing, quality, or risk can justify different prices.

Price discrimination changes distribution and may change output. If it opens service to a low-willingness-to-pay group, total quantity and welfare can rise. If it mainly raises prices for captive buyers or withdraws sales from a group, welfare can fall. Profit generally rises when segmentation is effective, but total surplus has no universal direction.

Practical and ethical limits

Digital firms can infer willingness to pay from behavior, location, device, or purchase history. Such targeting raises privacy, transparency, and fairness concerns, especially for essential services. Anti-discrimination law may restrict use of protected characteristics even when segmentation is profitable.

Arbitrage also matters. Student fares can survive when identity is checked and tickets cannot be transferred; different prices for an easily resold physical good are harder to sustain.

Compare uniform and group prices

Suppose student values are 18, 14, 10, and 7, business values are 30, 25, 20, and 15, and MC is 4. A uniform price of 14 serves six buyers and earns profit 60. Separate prices of 14 for students and 20 for businesses serve five and earn 68.

In this example, segmentation raises profit but lowers output and total surplus. In another market, a discounted group price might bring new buyers in and raise output. This is why the welfare answer depends on the actual demand schedules rather than the phrase “price discrimination.”

Check whether the segmentation can survive

Ask whether the seller can identify groups, whether buyers can pretend to belong to another group, and whether low-price buyers can resell. Digital subscriptions may block resale but create privacy concerns. Physical goods are often easier to arbitrage.

Finally, separate cost-based differences from discrimination. A remote delivery price may be higher because service cost is higher. A different price for identical cost based on willingness to pay is the relevant discriminatory component.