Mostly Summarized from Gregory Mankiw’s Principles of Economics, 5^th Ed.

PART 5  Firm Behavior and the Organization of Industry

Chapter 15 of 36  Monopoly

Section 25 of 33

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The story of Readalot Publishing Company is fictional, but it teaches three lessons about price discrimination.

-1- Price discrimination is a rational strategy for a profit-maximizing monopolist because it increases sales and profits.

With price discrimination, a monopoly firm charges customers a price closer to their willingness to pay, selling more quantity of product than with a single price.

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-2- Price discrimination requires the ability to separate customers by their willingness to pay.

In the Readalot example customers were separated by geography and online services.

Monopolists commonly use differences such as income or age to distinguish among customers.

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-3- Price discrimination raises overall economic welfare.

A deadweight loss arises when Readalot charges a single $30 price.

The 400,000 less-enthusiastic readers do not get the book, even though they value it more than its marginal cost of production.

When Readalot price discriminates --

· charging $30 for the book to the 100,000 diehard fans

· charging $5 for the book to the 400,000 less-enthusiastic readers

-- all readers get the book, raising overall economic welfare.

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Price discrimination reduces the deadweight loss inefficiency of monopoly pricing.

The increase in welfare from price discrimination results in higher producer surplus, profit for Readalot, but not higher consumer surplus.

Consumers are little or no better off for having bought the book.

With theoretical precise price discrimination the price consumers pay equals the value they place on the book, so they receive no consumer surplus.

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