ASSIGNMENT

SUBJECT:-ECONOMICS FOR MANAGERS

TOPIC: Price discrimination: Case of Dumping

SUBMITTED BY:

SHUBHADIP BISWAS SECTION-A ROLL NO.-FT-10-948

SIVNANDAN VERMA SECTION-A ROLL NO.-FT-10-947

Price Discrimination Discussions of firm pricing behavior often assume that a firm will

charge the same price to all consumers. In reality, we find

examples like theatres who charge different prices to students,

the general public, seniors, etc. - even though the cost of

supplying "entertainment" to each of these consumer types is the same. This corresponds with a practice known as price

discrimination.

What is price discrimination? The standard discussion of price

discrimination centers on the following brief definition: "Price

discrimination is the sale (or purchase) of different units of a

good or service at price differentials not directly corresponding to

differences in supply cost." (Scherer and Ross, 1990)

How do firms conduct price discrimination? Price discrimination is founded on a firm's ability to distinguish

amongst buyers, based on their varying demand characteristics

for a particular product. The more a firm is able to do so, the

more perfect the degree of price discrimination.

Three conditions must exist to enable a firm to profitably price

discriminate: (a) the firm must have market power, (b) the firm

must be able to distinguish among buyers on the basis of their

demand-related characteristics (e.g. demand elasticity or

reservation price), and (c) the firm must be able to constrain resale between buyers with high and low reservation prices (or

demand elasticities).

There are three degrees of price discrimination (illustrated

below): (a) first degree (perfect), where firms charge each

consumer their reservation price for the good; (b) second

degree, where firms charge "blocks" of consumers their

reservation price for the good; and (c) third degree, where firms

divide consumers into two or more submarkets, each with its own

demand curve, and independently maximize profits in each

submarket.

What types of price discrimination are found in practice?

There are three main classes, each with differing intra-type

examples: personal discrimination, which is based on differences among individual consumers; group discrimination, where

intergroup differences are the distinguishing factor; and product

discrimination, where different products are priced in a

discriminating manner.

In simple monopoly, where the monopolist charges a single price

from all buyers for reasons not associated with differences in

costs. At times, the monopolist is in a position to charge different prices for the same product. This behavior of monopolist is

termed as price discrimination and this type of monopoly is

referred to as discriminatory monopoly. In the words of Joan

Robinson, the act of selling the same article, product under a

single control, at different prices to different buyers is known as

price discrimination". A monopolist resorts to price discrimination,

whenever it is possible and profitable to do so. Thus, price

discrimination is a special case of monopoly. It is different from

price differentiation, where the difference in price may be equal

to the difference in the cost.

Under price discrimination, the cost of production is the same. If

it differs, the difference in cost is less than the difference in prices

charged from different buyers. In the words , "price

discrimination is the sale of technically similar products at prices,

which are not proportional to marginal costs".

The product sold by the monopolist is essentially the same.

However, sometimes, there may be slight or illusory difference.

Different binding (hard bound or paperback) of the same book,

different location of seats in a theatre or cinema hall, different

seats in an aircraft or a train, different colors of the cars are some examples.

The differences in prices charged from different buyers may be

based on demand differences or cost differences or both.

Important point is to identify different sectors of the market

having demand curves of different elasticity‘s. Higher price will be

charged in the market with more inelastic demand and lower

price would be there in the market with relatively elastic demand,

since the consumers have more or better substitutes here. The

price in the latter market can be raised only at the expense of decline in sales.

Forms Of Price Discrimination

Price discrimination may assume several forms. Following are the principal forms of price discrimination.

1. Personal Discrimination

2. Place Discrimination

3. Trade Discrimination

4. Time Discrimination

5. Product Discrimination

Price discrimination causes ethical concerns within the global

community because it causes many consumers to have to pay

more than what is considered fair for a product. In addition, this practice harms competition among international

businesses. ―Price discrimination may become an ethical issue or

even be illegal when (1) the practice violates either country‘s

laws, (2) the market cannot be divided into segments, (3) the

cost of segmenting the market exceeds the extra revenue from

legal price discrimination, or (4) the practice results in extreme

customer dissatisfaction.‖

Dumping - A Special Case Of Price Discrimination

DOMESTIC FIRM

SELLING AT LOWER

PRICE IN HOME

MARKET

FORIGN FIRM SELLING AT

LOWER PRICE IN OTHER

COUNTRY

Dumping:- It is unethical, and in many countries, an illegal

practice. It is ―an informal name for the practice of selling a

product in a foreign country for less than either (a) the price in

the domestic country, or (b) the cost of making the product. It is

illegal in some countries to dump certain products into them, because they want to protect their own industries from such

competition.‖ So why would a business want to sell their

products for less than they can demand domestically, or for even

less than the production cost? There are several reasons why a

company might chose to implement dumping as a strategic

move. For example, the product may have become obsolete in

the domestic market yet still have a demand in other nations. The

domestic market may not be sufficient to sustain adequate levels

of production so dumping internationally is implemented.

Dumping is also a way for a corporation to ―enter a market quickly and capture a large market share.‖ ) Whatever the

strategy behind dumping may be, it is viewed as unethical if it

obstructs competition or harms the business and employees of a

competitor within a country. ―Anti-dumping suits, along with

safeguards and countervailing measures, are tools for protecting

domestic industries from surges of cheap foreign imports.

In imperfectly competitive markets, firms sometimes charge one

price when it exported but when sold in the domestic market at a

higher price. In reality one can surely say this to be imperfect competition. The practice by which the producer charges its

customers different prices based upon the different market

demands is known as price discrimination. One can thus easily

observe that dumping involves the practice of price

discrimination. According to Krugman, dumping occurs if the

following two conditions are met:

1. The industry has to be perfectly competitive only if there is

an imperfect competition, and the prices are set by the firms

itself and not taking into account the market prices.

2. The markets must be segmented so that the domestic residents cannot easily purchase goods intended for export.

To prevent this dumping by a firm in a foreign country the foreign

country generally imposes a duty on the firm, equal to the

difference between the actual and the 'fair' price of imports. In

the present scenario the 'fair' price is generally determined based

on estimates of foreign production costs. The very fact that price

discrimination when practiced by airlines and railways in case of

charging different prices to students and senior citizens is

promoted but when the same strategy is followed by a firm to enter into a market and is willing to incur losses, anti-dumping

duties are imposed.

The firm can still practice price discrimination, if, it has a

monopoly in the domestic market, but faces perfect competition

in the international market for his product. Here, the monopolist

sells his product at a higher price in the home market and at a

very low price in the foreign market. This is called dumping, as

the firm virtually dumps his product at a very low price in the foreign market, wherein it feces perfectly elastic demand curve.

The price in the foreign market may even be lower than the

average cost of production. The firm then suffers losses here.

However, the monopolist does not suffer an overall loss. By

exploiting the home market, it can raise price above the average

cost and earn monopoly profit, which might more than

compensate for the foreign market losses.

Fig. 4 illustrates how the price discrimination is possible by the

monopolist in spatially separated markets. In protected domestic

market, this monopolist faces downward sloping demand curve

ARD The corresponding marginal revenue curve MRD is also

downward sloping. However, die demand curve ARF of the

concerned firm in the foreign market is horizontal straight line at

the level of OPF price, as here; it is one among large number of

competitors. In the foreign market, its marginal revenue curve

MRF coincides with the demand curve ARF due to perfect

competition there. On account of perfect competition in the foreign market, the firm has no freedom to determine price in the

international market. Rather, it is a price taker here. However,

the firm can fix the profit maximizing price in the domestic

market. Here, the price cannot fall below OPF level.

The price determination under dumping is slightly different from

the one explained earlier, where the firm enjoys monopoly power

in each sub-market. Under dumping, instead of taking just lateral

summation of the two marginal revenue curves,[we take the composite curve BCE as the aggregate] marginal revenue (AMR)

curve. The firm will be in equilibrium at point 'E‘ where this curve

is intersected! by its given marginal cost curve MC from below.

The equilibrium output OQF determined by dropping perpendicular

on the X-axis is to be distributed between the home market and

the foreign market in such a way that marginal revenue in each

market is equal to each other and to the marginal cost EQF It is

clear from Fig. 4 that 'C' is the point of equilibrium of the firm in

the home market, where marginal revenue CQD is equal to

marginal cost EQF. Thus, OQD amount of total output is sold in the home market.

Fig. 4: Price Determination under Dumping

It is clear from the ARD curve of the firm that RQD or OPD price

will be charged for OQD amount of output in the home market.

The remaining amount OQF ? OQD = QDQF of the total output will

be sold in the foreign market. The total output in the two markets

is OQD + QDQF = OQF. The profit maximizing equilibrium condition

of the firm can be written as MRD = MRF = AMR = MC. The total

profit of the firm is given by the shaded area shown in Fig. 4

between the aggregate marginal revenue curve BCE and the

combined marginal cost curve MC.

Even under dumping, the relationship between price and the price

elasticity of demand is clearly established. The concerned firm sells more output at a lower price in the foreign market (which

has highest possible elasticity of demand) and less output at a

higher price in the domestic market (which has less elastic

demand).

Forms of Dumping

Persistent Dumping - Dumping resulting from international price

discrimination.

Predatory Dumping – it is the ‗temporary‘ sale of a commodity at

below cost or at a lower price abroad in order to drive foreign

producers out of business, after which prices are raised abroad to

take advantage of the newly acquired monopoly power.

For example, suppose there are two companies selling identical

products; company Y is a domestic firm and company X is

a foreign firm. Company X wants to drive company Y out of the

market, so it prices its product far below the cost of producing it.

Company Y must compete by lowering its prices, which eventually

causes the company to lose money and exit the market.

Sporadic Dumping – It is the ‗occasional‘ sale of the commodity

at below cost or at a lower price abroad than domestically in

order to unload an unforeseen and temporary surplus of a

commodity without having to reduce domestic prices.

Reasons for Dumping

• Predatory Price (Predatory Dumping)

The practice of cutting prices in an attempt to drive a rival out of

business or create barriers to entry for potential new competitors.

• Price Discrimination/Strategic Dumping

If a firm has a monopoly in its home market but faces strong

competition in a foreign market, it will charge a higher price in

the home market.

• Cyclical Dumping

Selling at low price because of over capacity due to downturn in

demand.

• Market Expansion Dumping

Selling at lower price for export than domestically in order to gain

market share.

• State Trading Dumping

Selling at lower price in order to gain hard currency.

The nations dump products to:---

ELIMINATE COMPETITION

SECURE MONOPOLIES

INCREASE SHARE OF INTERNATIONAL EXPORT

Dumping: Factors

• Subsidies:

Subsidies (in the exporting country) can lead to aggressive

dumping, since goods can be sold profitably at a price that is

cheaper than the cost of manufacture.

• Banned Products:

History also sheds light on the numerous manufacturers that

have used dumping to sell off products that were banned in their

domestic market.

Effects

Dumping can harm the domestic industry by reducing its sales

volume and market shares, as well as its sales prices.

• Dumping results in the following:

– Hurts a country‘s domestic industry and producers.

– Impacts the sales volume.

– Hurts the market shares.

– Triggers decline in profitability.

– Leads to job losses.

– Cause material injury.

Examples

Japan was accused of dumping steel, television sets, and

computer chips in the United States, and Europeans of

dumping cars, steel and other products.

Most industrial nations (especially those of European union)

have tendency of persistently dumping surplus agricultural

commodities arising from their farm support programs.

"Dumping" is the practice of American firms exporting goods

which have been declared dangerous or which have been

banned altogether from domestic markets . The practice is

typically undertaken by companies which have invested a

considerable amount of their resources into the product, and

who are trying to recover part of that investment.

Dumping can take many forms. One example is of pajamas

containing the chemical Tris, which, according to study,

caused kidney cancer in children . In this instance, a number

of small companies who manufactured clothing treated with

the now-banned chemical faced mounting inventories and

severe financial losses. In order to absorb the losses, some

companies sold the pajamas to exporters who marketed the

goods overseas where Tris-treated garments were not

banned. The manufacturers suffered less severe losses than

if they had not sold to the exporters, the exporters made a

profit on the deal, and children overseas were exposed to

the carcinogen Tris.

Dumping can assume more sinister forms, as well. Wheat

and barley in Iraq were treated with a US-banned fungicide

in 1972. As a result, 400 died and 5,000 became ill.

Baby pacifiers (Teether) which have been implicated in

choking deaths have been shipped overseas.

The moral question becomes more acute when considering

the use of the Dalkon Shield. This contraceptive device is

known to cause pelvic inflammation, blood poisoning,

spontaneous abortions, tubal pregnancies and uterine

perforations . Some deaths are considered the direct result

of the contraceptive's use.

Despite its known risks, the device is used in a number of

American sponsored population control programs. The

Dalkon Shield puts women at these countries at increased

risk of illness and death. Yet a number of American and

overseas officials support the contraceptive's use. These

officials argue that withdrawing the contraceptive will result

in more pregnancies in societies which can ill afford

significant increases in population.

Anti Dumping

Anti dumping is a measure to rectify the situation arising out of

the dumping of goods and its trade distortive effect.

The purpose of anti dumping duty is to rectify the trade distortive

effect of dumping and re-establish fair trade. The use of anti

dumping measure as an instrument of fair competition is

permitted by the WTO.

So, anti dumping is an instrument for ensuring fair trade and is

not a measure of protection for the domestic industry.

If the domestic industry is able to establish that it is being injured

by the dumping, then antidumping duties are imposed on goods

imported from the dumpers' country at a percentage rate

calculated to counteract the dumping margin.

Advocates of free markets see "dumping" as beneficial for

consumers and believe that protectionism to prevent it would

have net negative consequences.

Investigation & Litigation

There are different ways of calculating whether a particular

product is being dumped heavily or only lightly. The agreement

narrows down the range of possible options. It provides three

methods to calculate a product‘s ―normal value‖.

The main one is based on the price in the exporter‘s domestic

market.

When this cannot be used, two alternatives are available — the

price charged by the exporter in another country,

Or a calculation based on the combination of the exporter‘s

production costs, other expenses and normal profit margins.

Anti-dumping investigations are to end immediately in cases

where the authorities determine that the margin of dumping is

insignificantly small (defined as less than 2% of the export price

of the product).

Other conditions are also set. For example, the investigations also

have to end if the volume of dumped imports is negligible i.e. if

the volume from one country is less than 3% of total imports of

that product.

Although investigations can proceed if several countries, each

supplying less than 3% of the imports, together account for 7%

or more of total imports.