Question

State 1 example of 3rd degree Price Discrimination. What is one possible way through which
market seepage / arbitrage can be prevented in this example?

Answer 1

Third degree price discrimination occurs when different consumer groups are charged different prices, and this grouping is done on the basis of demographic differences.

For example, consumers may be segregated on the basis of age, location, gender, income, occupation and so on.

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One common example is to segregate consumers at a restaurant, they are divided into students and non-students. Students will get a discount, while others won't.

Of course, there can be many more categories like employees of a particular company, government employees, students of a particular college etc. However to keep things simple, only two categories are set: students and non-students.

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Now, arbitrage means that someone misuses the student discount - or the student discount is given to a non-student.

A student may buy food from the restaurant at a discount, and sell it to someone. Or, someone may forge an identity card to pass off as a student.

It should not be possible that someone buys at a discount, and sells at a higher price.

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For this, the restaurant needs to ensure strict checks.

The first one is that discounts should only be offered to genuine students. Verifying the ID card is the first step. Nowadays, cases of forgery have increased. Hence, the restaurant also needs a system to ensure that the ID card itself is genuine. This may involve an extra round of checking with the college itself.

Any discount should not be permanent - in the sense, that periodic changes should be made to the discount terms and conditions. Verification should be a regular exercise.

To ensure that students don't sell the goods at a higher price outside, takeaways should not be allowed. For a student discount, food has to be consumed in the restaurant.

Further, every student only has a limited quota which he or she can purchase on discount, in a day. Otherwise, they may involve in arbitrage.

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All this requires alertness and strictness from the seller, to ensure that arbitrage doesn't take place. This holds true for any market.