Price Discrimination Without Market Power

Politicians, regulators and antitrust analysts have often used the presence of price discrimination as an indicator of market power. They are often motivated by political pressure from buyers facing the higher of the discriminatory prices to regulate or to pursue antitrust remedies in price-discriminating industries. Their justification for doing so is provided by economic models that equate deviation from marginal cost with market power. In the unusual case where costs are completely separable, this position may have validity. But most commonly, real-world goods and services are produced under conditions where costs, whether sunk costs like R&D or advertising or production or distribution costs like common facilities, are shared with other products. Under these common conditions, firms constrained by competition from earning monopoly rents will adopt price discrimination as the optimum strategy to allocate common costs among buyers. Not only is this very often welfare-enhancing (as Ramsey pricing suggests it is for certain monopolists), it is not evidence of the unilateral or collusive power to affect industry output, which is at the heart of the "monopoly power" or "market power" concepts. A version of this mechanism also can be used to recover sunk costs in a competitive environment, thus providing a solution to the "destructive competition" problem which plagued regulatory economics from the late nineteenth century to the late twentieth. This view of price discrimination also helps explain and justify network pricing behavior that has been accused of being predatory. Price discrimination can, of course, be used to facilitate and preserve the exercise of market power. But while some price discriminating sellers can earn monopoly rents, price discrimination alone is not evidence of market power and should not be used to justify regulatory intervention