Although in the due course of firms setting up prices charge and quantity to sell to their customers applying the profit maximization rule, we are not always charged the same prices.
Price discrimination refers to a practice of charging different consumers different prices. This is evident in the real world where firms decide at which price to sell the same product to different customers.
There are a number of tools utilized to discriminate in terms of price:
Age group (Kids vs Adults)
Gender type (Male vs Female)
Income level (Low vs High-income)
Profession
Time (Daytime vs Nighttime)
Place (Proximity from the product or service location)
Consumer surplus per consumer
Spending quantity on product
However the vital tool of them all and also where also the mentioned above tools have been derived from is Consumer desperation. Firms can smell desperation from a mile away, as in how bad does the consumer need this product. A private tutor, for instance, suppose receives a call from a student requesting for assistance on a 100-mark assignment that reaches maturity time in the next 4 hours. The tutor acknowledging the desperation of the student to swiftly write and submit the assignment within the 4 hour period will tend to charge excessive prices, above her normal prices. This is desperation in terms of time or the urgency of the need of the service leading to price discrimination.
Three types of price discrimination:
First degree price discrimination or perfect price discrimination
Second degree price discrimination
Third degree price discrimination
Perfect price discrimination
Have you ever been offered a service and at the conclusion of that event you ask how much you should pay them and they responded by saying "How much do you have?" ? This sounds like a scam right? But it is not. In my time of rendering tuitions, initially I would say "do not pay me Now! After this session rate my service, if it is good you can pay, if not you can keep your money." . This is perfect price discrimination, because by doing this I am permitting each and every student to pay me according to how I rendered the service (ratings), and ratings will affect the consumer's willingness to pay (consumer surplus). However, the problem with this is dishonesty. Not to mention the issue of being compensated later for my service, regardless an effort to make an impression consumers may lie to pay low prices, creating inefficiency while the reason for the establishment was to create Pareto efficiency. This is a problem of the perfect price discrimination, yet there is a solution to it.
Imperfect price discrimination
Instead of asking people questions such as "how much do you have?" firms evaluate their consumer while rendering a service to or selling a good to and charge them. For instance, your car broke down so you go to the local mechanic to repair it. Presume the mechanic is a price discriminator, the first thing the mechanic will evaluate is the type of car and how much it worths; secondly suppose because he is a local mechanic he knows you, including your profession, the price you are going to be charged will be determined by those 2 evaluations. Suppose it is an SUV and you are an advocate, he is going to charge you higher prices. Other things that he can use suppose he does not know you are clothes and accessories you are wearing, for instance you are wearing a Nike shirt; Nike track pants; Jordan shoes; and a ring (married), he is going to charge you higher prices.
Since the first degree price discrimination is determined by the consumer surplus, it exhausts the entire consumer surplus. For instance, the original price is $5 and Jane is willing to pay $8, under the first degree price discrimination situation Jane does not have consumer surplus because she is charged according to her reservation price or consumer surplus. However suppose there was no price discrimination, her consumer surplus would be $3.
Second degree price discrimination
"Buy One! Get One free!" This is what people think of when approaching this section, yet it is not necessarily FREE but a discount. Ever walked into a local spaza shop to buy something that cost $1 and you want to buy 10 of that product but you only have $8 and at the till in your defence you say "I always support you, today give me a discount" ? This is called the second degree of price discrimination. Yet to be precise, it does not focus on how many times you have been buying from the store but how much quantity of good do you buy from the store. For instance the price of good x is $2, yet you can buy 5 with only $8. This is referred to as the quantity discount that serves people to buy more of a product. In the real world this happens in a situation where there is a surplus to such an extent the producers are trying to get rid of that unsold-stock before it reaches its expiring date, food for instance. This is the reason business people buy in bulk and it also compliments the international trade having the notion that it cost you less to buy from the other country, and to reduce the costs furthermore, ship commodities in bulk, but this reduces external prices.
Third degree of price discrimination
Is it feasible that a certain group might pay more or less than another group while both purchasing the same product? The answer is Yes, and this is called third degree of price discrimination. This refers to the firm dividing consumers into groups and setting different prices for each group. Go to a Game Reserve with your child, and each and one of will be charged different prices on entrance. Usually kids are charged less while adults are charged more, for instance kids pay $2 for entrance while adults pay $5 for entrance. Suppose there is a stadium in your state that had been recently built. Presuppose the owner is a third degree price discriminator, she is going to have two groups: one for consumers residing in that state and the other one for people from other states. The locals pay $10 while visitors from other states pay $12. Why? Reason being the locals may come to the stadium anytime they please because they are nearby, while people from other states have schedule a day come watch the game, so they are desperate hence they get to pay more.
Conditions of price discrimination
Must be a monopoly
Understand customers
Acknowledge the elasticity of each segments
Last but not least, maximize profits where MR = MC.
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