Monopoly & Price Discrimination

Monopoly & Price Discrimination Hall & Lieberman, Chapter 9

Price Discrimination • Single-price monopoly • Firm that is limited to changing same price for each unit of output sold • Price discrimination occurs when a firm charges different prices to different customers for reasons other than differences in costs • Price-discriminating monopoly does not discriminate based on prejudice, stereotypes, or ill-will toward any person or group • Rather, it divides its customers into different categories based on their willingness to pay for good

Requirements for Price Discrimination • Although every firm would like to practice price discrimination, not all of them can • To successfully price discriminate, three conditions must be satisfied • Must be a downward-sloping demand curve for the firm’s output • Firm must be able to identify consumers willing to pay more • Firm must be able to prevent low-price customers from reselling to high-price customers

Price Discrimination That Harms Consumers • Price discrimination always benefits owners of a firm • Can use this ability to increase its profit • When price discrimination raises price for some consumer above price they would pay under a single-price policy it harms consumers • Additional profit for the firm is equal to monetary loss of consumers

(a) Dollars per Ticket Number of Round-trip Tickets Figure 8a: Price Discrimination MC E ATC $120 80 MR D 30

Additional profit from price discrimination Figure 8b: Price Discrimination (b) Dollars per Ticket MC $160 120 MR D Number of Round-trip Tickets 10 30

Additional profit from price discrimination Figure 8c: Price Discrimination (c) Dollars per Ticket MC $120 F G 100 H MR D Number of Round-trip Tickets 30 30

Price Discrimination That Benefits Consumers • Price discrimination benefits monopoly at the same time it benefits a group of consumers • Since no one’s price is raised, no one is harmed by this policy • When price discrimination lowers price for some consumers below what they would pay under a single-price policy, it benefits consumers as well as firm

Perfect Price Discrimination • Suppose a firm could somehow find out maximum price customers would be willing to pay for each unit of output it sells • It could increase profits even further by practicing perfect price discrimination • Firm charges each customer the most the customer would be willing to pay for each unit he or she buys • Increases profit at expense of consumers • Perfect price discrimination is very difficult to practice in the real world • Would require firm to read its customers’ minds • Marginal revenue is equal to price of additional unit sold • Firm’s MR curve is same as its demand curve

H Dollars per Doll MR curve before price discrimination $30 E 25 B J 10 MC = ATC D MR Number of Dolls per Day 20 30 60 Figure 9: Perfect Price Discrimination

The Decline of Monopoly? • Past century was not kind to monopolies • Today, monopolies face a different threat • Relentless advance of technology • The world of monopolies is changing rapidly • But monopolies in many forms will be with us for some time

Using the Theory: Price Discrimination at Colleges and Universities • Most colleges and universities give some kind of financial aid to a large proportion of their students • Financial aid has been used as an effective method of price discrimination • Designed to increase revenue of the college • Colleges have long been in an especially good position to benefit from price discrimination, because they satisfy all three requirements • Face downward-sloping demand curves • Able to identify consumers willing to pay more • Able to prevent low-price customers from reselling to high-price customers

Using the Theory: Price Discrimination at Colleges and Universities • Most colleges have been active price discriminators for decades • Under newer systems, those who can signal a lower willingness to pay have benefited from reduced prices • While those signaling greater willingness to pay have suffered a price increase • Result is vastly different prices for different students • Highly correlated to their families’ willingness to pay • Increased price discrimination at colleges, like so many other economic issues, is a matter of tradeoffs

Monopoly & Price Discrimination