Price discrimination 

is a microeconomic pricing strategy where identical or largely similar goods

or services are sold at different prices by the same provider in different markets.[1][2][3] Price
discrimination is distinguished from product differentiation by the more substantial difference
in production cost for the differently priced products involved in the latter strategy.[3] Price
differentiation essentially relies on the variation in the customers' willingness to pay[2][3][4] and in
the elasticity of their demand. For price discrimination to succeed, a firm must have market
power, such as a dominant market share, product uniqueness, sole pricing power, etc.[5] All
prices under price discrimination are higher than the equilibrium price in a perfectly-competitive
market. However, some prices under price discrimination may be lower than the price charged by
a single-price monopolist.
The term "differential pricing" is also used to describe the practice of charging different prices to
different buyers for the same quality and quantity of a product,[6] but it can also refer to a
combination of price differentiation and product differentiation.[3] Other terms used to refer to price
discrimination include "equity pricing", "preferential pricing",[7] "dual pricing"[4] and "tiered pricing".
[8]
 Within the broader domain of price differentiation, a commonly accepted classification dating to
the 1920s is:[9][10]

 "Personalized pricing" (or first-degree price differentiation) — selling to each customer at

a different price; this is also called one-to-one marketing.[9] The optimal incarnation of this is
called "perfect price discrimination" and maximizes the price that each customer is willing to
pay.[9]
 "Product versioning"[2][11] or simply "versioning" (or second-degree price differentiation) —
offering a product line[9] by creating slightly different products for the purpose of price
differentiation,[2][11] i.e. a vertical product line.[12] Another name given to versioning is "menu
pricing".[10][13]
 "Group pricing" (or third-degree price differentiation) — dividing the market into segments
and charging a different price to each segment (but the same price to each member of that
segment).[9][14] This is essentially a heuristic approximation that simplifies the problem in face
of the difficulties with personalized pricing.[10][15] Typical examples include student
discounts[14] and seniors' discounts.

Contents

 1Theoretical basis
o 1.1First degree
o 1.2Second degree
o 1.3Third degree
o 1.4Two part tariff
o 1.5Combination
 2Modern taxonomy
 3Explanation
o 3.1Price Discrimination in Oligopoly
o 3.2Advantages of price discrimination
o 3.3Disadvantages of Price Discrimination
 4Examples
o 4.1Retail price discrimination
o 4.2Travel industry
o 4.3Coupons
o 4.4Premium pricing
o 4.5Segmentation by age group, student status, ethnicity and citizenship
o 4.6Discounts for members of certain occupations
o 4.7Retail incentives
 o 4.8Incentives for industrial buyers
o 4.9Gender-based examples
o 4.10International price discrimination
o 4.11Academic pricing
o 4.12Sliding scale fees
o 4.13Weddings
o 4.14Obstetric service
o 4.15Pharmaceutical industry
o 4.16Textbooks
o 4.17Two necessary conditions for price discrimination
o 4.18User-controlled price discrimination
o 4.19See also
 5References
o 5.1External links
o 5.2Reference list

Theoretical basis[edit]
In a theoretical market with perfect information, perfect substitutes, and no transaction costs or
prohibition on secondary exchange (or re-selling) to prevent arbitrage, price discrimination can
only be a feature of monopolistic and oligopolistic markets,[16] where market power can be
exercised. Otherwise, the moment the seller tries to sell the same good at different prices, the
buyer at the lower price can arbitrage by selling to the consumer buying at the higher price but
with a tiny discount. However, product heterogeneity, market frictions or high fixed costs (which
make marginal-cost pricing unsustainable in the long run) can allow for some degree of
differential pricing to different consumers, even in fully competitive retail or industrial markets.
The effects of price discrimination on social efficiency are unclear. Output can be expanded
when price discrimination is very efficient. Even if output remains constant, price discrimination
can reduce efficiency by misallocating output among consumers.
Price discrimination requires market segmentation and some means to discourage discount
customers from becoming resellers and, by extension, competitors. This usually entails using
one or more means of preventing any resale: keeping the different price groups separate, making
price comparisons difficult, or restricting pricing information. The boundary set up by the marketer
to keep segments separate is referred to as a rate fence. Price discrimination is thus very
common in services where resale is not possible; an example is student discounts at museums:
In theory, students, for their condition as students, may get lower prices than the rest of the
population for a certain product or service, and later will not become resellers, since what they
received, may only be used or consumed by them. Another example of price discrimination
is intellectual property, enforced by law and by technology. In the market for DVDs, laws require
DVD players to be designed and produced with hardware or software that prevents inexpensive
copying or playing of content purchased legally elsewhere in the world at a lower price. In the US
the Digital Millennium Copyright Act has provisions to outlaw circumventing of such devices to
protect the enhanced monopoly profits that copyright holders can obtain from price discrimination
against higher price market segments.
Price discrimination can also be seen where the requirement that goods be identical is relaxed.
For example, so-called "premium products" (including relatively simple products, such as
cappuccino compared to regular coffee with cream[dubious  –  discuss]) have a price differential that is not
explained by the cost of production. Some economists have argued that this is a form of price
discrimination exercised by providing a means for consumers to reveal their willingness to pay.
Price discrimination differentiates the willingness to pay of the customers, in order to eliminate as
much consumer surplus as possible. By understanding the elasticity of the customer's demand, a
business could use its market power to identify the customers' willingness to pay. Different
people would pay a different price for the same product when price discrimination exists in the
market. When a company recognized a consumer that has a lower willingness to pay, the
company could use the price discrimination strategy in order to maximized the firm's profit.[17]

First degree[edit]
Exercising first degree (or perfect or primary) price discrimination requires the monopoly seller of
a good or service to know the absolute maximum price (or reservation price) that every
consumer is willing to pay. By knowing the reservation price, the seller is able to sell the good or
service to each consumer at the maximum price they are willing to pay, and thus transform
the consumer surplus into revenues, leading it to be the most profitable form of price
discrimination. So the profit is equal to the sum of consumer surplus and producer surplus. The
marginal consumer is the one whose reservation price equals the marginal cost of the product.
The seller produces more of their product than they would to achieve monopoly profits with no
price discrimination, which means that there is no deadweight loss. Examples of this might be
observed in markets where consumers bid for tenders, though, in this case, the practice of
collusive tendering could reduce the market efficiency.[18]

Second degree[edit]
In second-degree price discrimination, price varies according to quantity demanded. Larger
quantities are available at a lower unit price. This is particularly widespread in sales to industrial
customers, where bulk buyers enjoy discounts.[19]
Additionally to second-degree price discrimination, sellers are not able to differentiate between
different types of consumers. Thus, the suppliers will provide incentives for the consumers to
differentiate themselves according to preference, which is done by quantity "discounts", or non-
linear pricing. This allows the supplier to set different prices to the different groups and capture a
larger portion of the total market surplus.
In reality, different pricing may apply to differences in product quality as well as quantity. For
example, airlines often offer multiple classes of seats on flights, such as first-class and economy
class, with the first-class passengers receiving wine, beer and spirits with their ticket and the
economy passengers offered only juice, pop, and water. This is a way to differentiate consumers
based on preference, and therefore allows the airline to capture more consumer's surplus.

Third degree[edit]
Third degree price discrimination means charging a different price to