Home > Economics FAQs Blogs > Why Can Only Large Firms, Such as Monopolies, Use Price Discrimination?
This question pertains to topics in Microeconomics, such as Market Structures, Price Discrimination, and Monopoly Power.
Price Discrimination: Price discrimination occurs when a firm charges different prices to different consumers for the same good or service, based on factors such as willingness to pay, location, or purchase timing, without cost differences justifying the price variation.
Price discrimination is only feasible for large firms, particularly monopolies or firms with significant market power, due to several key conditions:
Market Power and Price-Setting Ability:
Only firms with monopoly or dominant market power can set prices independently. In perfect competition, firms are price takers, meaning they must accept the market price and cannot discriminate.
Ability to Segment the Market:
A firm must be able to divide consumers into distinct groups based on price elasticity of demand. Large firms with strong data access (e.g., airlines, software providers) can track consumer behaviour and adjust pricing accordingly.
Prevention of Arbitrage:
To maintain different prices in different segments, firms must prevent resale between consumer groups. Large firms can enforce contractual restrictions or use digital barriers to limit arbitrage (e.g., airline tickets with non-transferable terms).
Economies of Scale and Cost Structure:
Large firms, such as monopolies, benefit from economies of scale, allowing them to adjust pricing strategies without suffering significant cost increases. Smaller firms may lack the financial resources to absorb potential losses from lower-price segments.
Types of Price Discrimination in Large Firms:
First-Degree Price Discrimination:
Charging each consumer the maximum they are willing to pay (e.g., auction pricing, personalised online pricing).
Second-Degree Price Discrimination:
Charging different prices based on quantity purchased (e.g., bulk discounts, subscription tiers).
Third-Degree Price Discrimination: Charging different groups different prices based on age, income, location, or time of purchase (e.g., airline pricing, student discounts).
Airlines (British Airways, 2023): Prices vary based on demand, booking time, and customer profiles, reflecting third-degree price discrimination.
Pharmaceutical Industry (2022): Drug manufacturers charge different prices across countries based on income levels and government negotiations.
Large firms, particularly monopolies, can engage in price discrimination because they possess market power, segment consumer groups, prevent arbitrage, and exploit economies of scale. Small firms in competitive markets lack these advantages, making price discrimination infeasible. However, in industries like airlines and pharmaceuticals, price discrimination allows firms to maximise revenue while maintaining affordability for different consumer groups.
