Price discrimination exists when sales of identical goods or services are transacted at different prices from the same provider. Theoretically, price discrimination is a feature only of monopoly markets, but in practice it occurs with oligopolies such as the airlines, and even in fully competitive retail or industrial markets. Although the term has negative connotations, in practice it is difficult to distinguish from legitimate price differentiation. Price discrimination requires market segmentation and some means to discourage discount customers from becoming resellers and, by extension, competitors. This usually entails one or more of preventing any resale, keeping the different price groups separate, making price comparisons difficult, or restricting pricing information. The boundary set up by the marketer to keep segments separate are referred to as a rate fence. (http://en.wikipedia.org/wiki/Price_discrimination)
Perfect price discrimination
A form of price discrimination in which a seller charges the highest price that buyers are willing and able to pay for each quantity of output sold. This is also termed first-degree price discrimination because the seller is able to extract ALL consumers' surplus from the buyers. This is one of three price discrimination degrees. The others are second-degree price discrimination and third-degree price discrimination. (http://www.amosweb.com/cgi-bin/gls.pl?fcd=dsp&key=perfect+price+discrimination)
Conditions required for price discrimination to work
There are basically three main conditions required for price discrimination to take place.
Monopoly power
Firms must have some price setting power - so we don't see price discrimination in perfectly competitive markets.
Elasticity of demand
There must be a different price elasticity of demand for the product from each group of consumers. This allows the firm to extract consumer surplus by varying the price leading to additional revenue and profit.
Separation of the market
The firm must be able to split the market into different sub-groups of consumers and then prevent the good or service........
