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Price Discrimination
Carmel Secondary School
• 1. same product with• 2. same production costs to• 3. different buyers at• 4. different prices
Price Discrimination (PD) is seller selling the….
E.g.
Similar chicken withsame production cost to
different buyers with different prices at the
same place .
Why does PD exists?Why does PD exists? PD exists because sellers want to extract consumer surplus
However, to impose price discrimination ,sellers have to fulfill several conditions …
In EconomicsIn Economics, there are two models explaining , there are two models explaining PD ,one is from economist PD ,one is from economist George Strigler , ,Another one is from economist Another one is from economist Steven Cheung . .
• Seller must have monopoly power over the product ;
• Buyers must have different price elasticity on the same product ; (willing to pay different price)
•Markets can be separated . (resell is prevented)
• Seller have lower Information cost than buyer . (buyer willing to pay higher price : cost of obtaining information > loss in paying higher price)
• Information costs include those costs of obtaining information of trade .
The gain in using PD
(extracted consumer surplus)
>
Transaction cost of using PD
Or
The two models both try to explain the fact of PDFurthermore, seller will only use PD
when transaction cost incurred is insignificant
There are two types PD :
• 1.First degree PD (extract all CS) - charging along demand curve - required perfect knowing on buyers’ MUV
• 2.Third degree PD (extract part of CS) - charge different prices of same product on - different buyers with independent demands
Case 1
Price Discrimination caused by the difference
in price elasticity of demand
My son , Do you know why I have to pay more than
you while traveling by MTR and ?
Oo…is it the MTR and impose a price discriminati
on on us?
CASE 1
Can you try to explain further?
Ok !
Mummy , let me try to explain…According to Dr George
Strigler,Different buyers have different price elasticity of demand.
In order to impose price discrimination, the
MTR company has to separate the market into
student and adult markets.
Students are more price elastic than adult,
because their time cost are relatively lower, if
MTR charge them a high price, they will choose other substitutes. So
MTR charge them with a lower price.
To identify students, MTR give students a
Student Travel Card. So MTR can separate the markets successfully.
So students can pay a lower price than
adult !! Since the cost of serving them is the same, so it is price
discrimination .
Case 1
Well done ! You are so smart .I give this chicken leg to you .
YEAH
CASE 1
Case 2
Price Discrimination caused by Information
costs
Why is this tourist willing to pay a much higher price than me for
the same product ?
Temple StreetTemple StreetCase 2Case 2
Tourist
Dear sister….would you mind telling me why tourist always
willing to pay such a high price for the
goods in Hong Kong??It is because their
information cost is relatively higher than locals …..So the sellers price discrimination
them ….
Information cost ??
What’s that ??
WELL…Let me explain it to
you…..
According to Dr. Steven Cheung, one
who has a higher information cost is
more likely to be price discriminated by a
seller .
As the cost of obtaining information is high…buyer with high information cost
will be willing to pay a higher price .
It results a price discrimination then….
Then…..are all tourists have high information cost
and eventually lead to PD ?
Well…baby…..the answer is “ NO ” !
Let me illustrate it with an example…
Case 2Case 2
Example
Tourist
SellerI am just returned
from USA and I will stay here for 3
months…..Yet I want to buy a camera
first…..
Ooo….he is a tourist ….he must have a high infor
mation cost….I can charge him a high price then….
hehe
Hi…..I know you are a tourist….You just
come to a right place….You can find everything here….and
their prices are reasonable….
Waaaaa…..he must think I am a tourist and necessary to have a high information cost….so he wants to
price discriminate me…..
However, I’m going to stay in Hong Kong for 3 months.
My time cost of obtaining information is much lower
than a normal tourist because I have a lot of time
to search information.
So ….my information cost is not high ….Haha…..he want to charge me a high price ?!…NEVE
R !!
Sorry …I don’t think the price of your
products is suitable for me….Bye Bye
So ….tourists are not necessary to have high
information costs…Information costs
contain various costs…. local people may also have high information
costs…..
If they give up the chance of continuing their tours to obtain
information….they may even suffer a high loss……..That’s why they are
willing to pay more .
Case 2Case 2
However…how can you ensure a local people can buy the same product as the tourist at the same place with a cheaper
price ?? If a local people just buy at the same price…..it is not
price discrimination….
Well…baby…we can’t ensure it…but a local people usually get more
information than a tourist about the local market …. So their bargaining
power are usually higher….So it is less likely to pay a
higher price…. price discrimination then
exists ??
Exactly baby….!!
In many cases just like this example ,normally, tourist have high information cost are because their time cost is very high .They lack time
to obtaining sufficient information….
……….……….
Ok ….I see….
CASE 3
May I ask you one question??
PD are divided into 1st and 3rd degre
e PD? Isn’t it ?
……………Are you talking about first degree and third degree PD ?YES !
Well ! Aunt do you know what is first degree PD?
Good question !Let see .Of course….
$/P
Q0
MR
MC
P
AR=D=MV
Qd
= consumer surplus
AV
CASE 3
Fig 1
Simple monopoly pricing
Refer to Fig 1Originally, the seller produce when MC cut MR at Qd and
price is P….Then….. the Red area will be
the consumer surplus….
A
(1st Degree)
Simple monopoly pricing
$/P
Q0
MC
AR=D=MV
Qd
= consumer surplus
AV
CASE 3
Fig 2
=PP2
Q2
MR
P3
BSo, charging the
area P20Q2B is the same as charging
the area P30Q2A…..
Since mathematical proved that two
yellow triangles are identical ….
Haha….Do you understand what is 1st Degree PD?
However, under 1st PD ,AR curve of Simple monopoly
pricing (SMP) will equal to MR and MV curve .
AV curve of SMP will equal to AR curve ……
Therefore, this time not only part of
consumer surplus, but whole of it will be
captured by seller !!
The seller charges buyers with the
area P20Q2B ……
Again….seller will produce at MC cut MR…
Also…..the seller has to prevent resale
among buyers…..It may require a very
high transaction cost in doing so…..
However,1st PD is a very extreme case…the seller
require……
CASE 3
It is impossible in the real world . How can a seller know all about
his buyer’s preference?
Therefore….it is difficult to find a real example to
illustrate it !
Question 1
If a doctor charges his clients the same service charge and sells them the same medicines with
different prices, is it considered as a kind of PD?
A. Yes B. No
The answer is “YES” not because the service charge, but the different prices for the medicines. For the cost of buying and
distributing/selling these medicines are the same, charging different clients with
different prices is a kind of PD.
Question 2
Is the telephone company charges more for IDD calls during rush hours practicing
price discrimination ?
A. Yes B. No
The answer is “NO” .Since the cost of providing IDD services is higher
during rush hours (the workload of the computer servers maybe higher) .For a
higher cost…charging a higher price is not PD .
Question 3
A can of soft drink is sold at a higher price in a hotel than in a
supermarket .Is this price discrimination?
A. Yes B. No
The answer is “NO”.As the hotel mainly serves tourist,
the cost of serving them is usually higher (e.g. waiters are always required to have good English speaking skills )
For a higher serving cost,Charging a higher price is not PD.
From sellers’ point of view,if the gain of practicing PD from trade can cover the transaction cost involved, we had better to
practice PD to capture consumer surplus.
Price discrimination can be divided into 1st Degree and
3rd Degree price discrimination.
There are many example of PD in our live such as MTR .
You can find them out if you pay more attention.
However , to practice or not depends on the transaction cos
t involved .
Price discrimination can help seller to extract consumer surplus .
There are two model of economics in explaining PD, one from Professor George Strigler, one from Professor
Steven Cheung.
2001-2002
Carmel Secondary School6B Chan Chung Hon
6B Poon Tai Yin6B Yip Tsz To