Price Discrimination in Free-Entry Markets

Severin Borenstein

RAND Journal of Economics, 1985, vol. 16, issue 3, 380-397

Abstract: Using a spatial model of monopolistic competition, we investigate price discrimination in free-entry, zero-profit markets. We show that when brands are heterogeneous, competition does not prevent discrimination. The power to earn economic profits is not necessary for a firm to maintain discriminatory prices. Our model treats formally the fact that consumers differ not only in the utility they derive from a good, but also in how strongly they prefer one brand over all others. In markets where firms are very competitive, sorting consumers on the strength on brand preference produces larger price differentials between groups than sorting on the basis of consumers' reservation prices for the good. When firms sort customers on the basis of strength of brand preference, however, we find that the output and welfare effects are generally less favorable than when sorting is more closely related to consumers' reservation prices.

Date: 1985
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