How does price discrimination function in imperfectly competitive markets?

Price discrimination in imperfectly competitive markets involves firms charging different prices to different consumers for the same product or service.

In imperfectly competitive markets, firms have some degree of market power, meaning they can influence the price of their product or service. This is in contrast to perfectly competitive markets, where firms are price takers and cannot influence the price. Price discrimination is a strategy used by firms in imperfectly competitive markets to maximise their profits. It involves charging different prices to different consumers for the same product or service, based on their willingness to pay.

There are three degrees of price discrimination. First-degree price discrimination, also known as perfect price discrimination, involves charging each consumer the maximum price they are willing to pay. This requires the firm to have perfect knowledge of each consumer's willingness to pay, which is rarely possible in reality. However, if achieved, it allows the firm to capture all consumer surplus, turning it into producer surplus.

Second-degree price discrimination involves charging different prices for different quantities of the same product or service. For example, a firm might charge a lower price per unit for larger quantities. This is often seen in bulk buying deals, where the price per unit decreases as the quantity purchased increases.

Third-degree price discrimination involves charging different prices to different groups of consumers. This is the most common form of price discrimination and is often based on factors such as age, location, or time of purchase. For example, a cinema might charge lower prices for students or senior citizens, or a train company might charge higher prices during peak times.

Price discrimination can only occur under certain conditions. The firm must have market power, meaning it can influence the price. It must be able to segment the market into different groups with different price elasticities of demand. It must also be able to prevent arbitrage, which is when consumers buy the product at a lower price and then resell it at a higher price.

In conclusion, price discrimination is a strategy used by firms in imperfectly competitive markets to maximise their profits. It involves charging different prices to different consumers for the same product or service, based on their willingness to pay. This can only occur under certain conditions, including the firm having market power, being able to segment the market, and being able to prevent arbitrage.