Teaching Third-Degree Price Discrimination by a Monopolist with Linear Demands

Abstract

This paper uses both a geometrical and mathematical analysis to explain monopolistic third-degree price discrimination, and it also shows how price discrimination affects society. A frequent policy question in the price discrimination literature is whether to allow third-degree price discrimination or to enforce uniform pricing. A key feature to understanding this issue in the context of imperfectly competitive markets is the impact of price discrimination on output. The article shows that a monopoly facing downward sloping linear demands, and constant marginal costs, will obtain higher profits under price discrimination than under a single-price strategy, but price discrimination lowers welfare if total output does not change. When price discrimination causes total output to increase, then this practice will have a beneficial effect on overall welfare.