Explication of the Price Discrimination Concept (Essay Sample)

Price Discrimination
Name
Institutional Affiliation
Price Discrimination
Essay 3
A firm operating in a competitive market is forced to accept the market price; however, a monopoly can set a price that maximizes the profits earned by that business. Price and quantity are adjusted according to the elasticity of demand for a certain product. Price discrimination is experienced when a company charges a different price for the same good or service to different customer groups, for other reasons other than costs. There are three types of price discrimination. Firstly, the first-degree price discrimination, also known as perfect price discrimination is experienced when a firm charges a different price for a unit consumed (Arnold, 2010). The business can charge the maximum possible price for every unit produced, which enables the business to capture consumer surplus for itself. Such form of price discrimination is rare. Source (Arnold, 2010).
Additionally, there is the second-degree price discrimination, which implies charging different prices for different quantities. For instance, quantity discount for making bulk purchases. Lastly, there is third-degree price discrimination, which involves charging different prices for different groups of consumers.
There are necessary conditions for price discrimination to be successful. Firstly, the firm should identify the various segments of the market, like industrial and domestic users. More importantly, these different market segments should have a different price elasticity of demand. Further, the market should be kept separate, either by nature of use, physical distance or time. As well, no seepage should exist in the two markets suggesting that consumers cannot obtain goods at a reduced price in the elastic sub-market, and later re-sell to other customers in the inelastic sub-market, at an increased price. Lastly, the firm should have some monopoly power.
Price discrimination is worth undertaking if the revenue earned from segregating the markets is higher than from maintaining the markets combined. However, this depends on the relative price elasticity of demand in the sub-markets. Therefore, customers operating in the relatively inelastic market segment are charged more whereas those in the relatively elastic segment are charged less. With ideas of maximizing profits, firms set price and output where MR=MC. If the firm operates in 2 submarkets manifesting different price elasticity of demand, such firm increases its revenues by depending on the slope of the demand curve (Arnold, 2010). In regards to this, for adults, the price elasticity of demand is inelastic, and this makes the prices higher. Conversely, for students, the prices are lower due to elastic demand.
Today, electronic commerce is growing rapidly as information technology becomes more robust creating some innovative pricing strategies have been developed. Dynamic pricing has been applied more widely across a variety of industries, and its application is increasing among retailers. Although price discrimination is a legitimate attempt by the sellers and producers to charge different prices for similar products basing on consumer demand, it can be illegal in some cases. For instance, it is regarded as illegal for manufacturers to charge different prices for any anticompetitive purposes.
Presumptively, the law allows sellers to charge prices as they choose when addressing their various customer groups. The majority of the vendors would resent any efforts aimed at restricting their discretion to charge their prices for different sales. In the contemporary market economies, businesses decide for themselves the prices they should charge for the products and to whom they should make sales. This aspect contradicts the fundamental principles of market economies to regulate the price charged by sellers for their products or impose regulations that are not allowed to change their prices for similar goods when selling them to different client bases. The general rule is that sellers are permitted by law to practice price discrimination, except when applying it to create a substantial risk of injury to competition.
Regarded, as a rule, price discrimination becomes illegal under the antitrust provisions when it threatens to undermine the conventional processes of competition in an affected market and meet certain criteria of the statutes of price discrimination. There are three types of harm to competition that resonates from price discrimination. Firstly, the primary-line injury. Arguably, this form of price discrimination proves challenging under the contemporary standards that it should be eliminated from the list. It is experienced when sellers use low prices to undermine their own direct competitors through underselling goods until they get ruined. Additionally, price discrimination is considered illegal when the seller’s low prices to the favored clients allows the client to undersell, hence destroying their own direct competitors. Lastly, price discrimination is considered illegal on the tertiary line of harm. This illegality in price discrimination is experienced in downstream markets when the low prices imposed by sellers to the favored customers allows such favored customers or even its own customers to undersell; hence ruining the disfavored customers’ customers.
Under the federal law, the Robinson-Patman Act governs the offense of unlawful price discrimination and condemns price discrimination only when it threatens to injure competition. There are some affirmative defenses to a price discrimination claim. Although a claimant might make one of the aforementioned instances, a seller accused of price discrimination can absolve himself by proving that he offered the preferred prices for compelling commercial endeavors. Moreover, he can defend himself that he offered the low price to the favored clients with ideas of matching prices set by his competitors. Lastly, he can mention that the preferred customer base that purchased large quantities of the products, so that he attained economies of scale on the purchases and could reasonably charge lower prices per unit as the costs per unit were reasonably low. However, a favored customer who forcefully induces price discrimination might remain responsible for inducing many sellers to give it preferred prices, although each seller might be excused on the ground that it just matched the prices offered by other vendors (Hubbard & O'Brien, 2013).
Further, a seller can avoid the claim for unlawful discrimination by proving that he offered the lower prices to a favored customer for a pro-competitive purpose that justifies the harm caused to competitive processes in the affected submarket. Better still, the seller can be pardoned upon proving that he offered the lower prices to match comparable prices provided by rival sellers or by proving that he did so because the preferred customer makes huge purchases of his products that he enjoys massive economies of scale on the sales.
Price discrimination has a substantial impact on many establishments. Firstly, firms engage in price discrimination to produce a greater quantity of output. Since the firm charges different prices to varying groups of customers, it attracts more buyers who are ready and willing to pay a small price without necessarily sacrificing profits from potential buyers willing to acquire the product at a higher price. Through selling to the two groups at different prices, the business increases the quantity of products it sells; hence more profits. Majorly, the reason for price discrimination is boosting sales, which reflect increased revenues. Through charging different prices, businesses are able to capture more customer surplus. Such an additional customer surplus adds to the enterprise’s producer surplus.
In the case of increasing monopoly’s profits, I would consider a monopoly operating in a perfect price discrimination. Such companies prices their products to equal what the customers are willing to pay. Since monopolies can never practice perfect price discrimination, it simplifies the analysis, as its marginal revenue curve parallels the market demand curve. In this regard, for a competitive firm, marginal revenue equates the market price. The competitive firm will produce until market price equals marginal cost (Hubbard & O'Brien, 2013). Under perfect price discrimination, the market demand curve coincides with the marginal revenue curve, so the monopolist produces until the price of the product equates the marginal revenue. This increases the price to a great extent, and also maximizes allocative efficiency as the price parallels marginal cost.
Although price discrimination has many advantages to a firm, certain requirements make it effective. There must be differences in price elasticity of demand in the different groups of customers. Then, the firm should charge higher prices on the consumer group with more price inelastic demand. Conversely, the firm should charge a lower price to the consumer group experiencing elastic demand. Further, some requirements resonate from barriers to prevent customers from switching suppl...