Cambridge International as and a level Economics Ebook

184
Cambridge International A Level Economics

---

is the same size as triangle B, which is the shortfall in 
cost, the fi rm will break even, but if it is larger then it 
makes abnormal profi t. As long as the consumers are 
prepared to pay the higher price, there is no consumer 
exploitation. Th
e competitive market price would 
generate losses and therefore there would be zero output 
in the long run.
If a fi rm wishes to split the market up into diff erent 
segments and charge diff erent prices, it must have a 
mechanism for keeping the markets separate. It must also 
avoid the possibility of consumers buying at a cheap price 
and then selling on the product at a higher price. Crucially, 
price discrimination will only work where consumers have 
a diff erent willingness to purchase or have diff erent price 
elasticities of demand for the product.
Price discrimination has certain advantages and 
disadvantages for fi rms and consumers. It results in 
an improvement in allocative effi
ciency but this is 
oft en achieved by converting consumer surplus into 
profi t. From an equity standpoint this is a disadvantage 
to consumers.
Regulation and equity: 
Price discrimination tends 
to favour producers over consumers; some form of 
regulation may be required to ensure that consumers are 
not exploited.
KEY CONCEPT LINK
SELF-ASSESSMENT TASK 
7.16
a
Taking each type of price discrimination in turn, 
give examples of each from your own country.
b 
Explain who you believe is benefi ting from price 
discrimination.
Limit pricing
Limit pricing is a pricing policy that is used by 
monopolies as well as oligopolies. As referred to earlier, 
it involves fi rms setting a lower short-run price to 
deter new fi rms from entering a contestable market. 
Th
ese fi rms might have been attracted by the abnormal 
profi ts that were being earned. At this new price, the 
incumbent fi rm no longer maximises profi ts but this 
is only to be expected for a short period of time. Th
e 
lower price eff ectively acts as a barrier to entry. To work, 
a monopolist or oligopolist needs to increase output or 
the services provided to such a level that a new fi rm is 
not in a position to make a profi t. An example might 
be in an unregulated taxi market where a fi rm might 
reduce rates and at the same time increase the number 
of its vehicles so making it impossible for a new entrant 
to make an impact; the likelihood is that these tactics 
will deter the new operator from trying to enter that