Differential Pricing in Intermediate Good Markets

This paper studies differential pricing by an upstream monopolist whose cost to supply the intermediate good differs across buyers in the downstream. It is shown that, different from demand-based price discrimination, cost-based differential pricing shifts production efficiently. If total output (and consumer welfare) is weakly increased under differential pricing than under uniform pricing, as is true for weakly convex final market demand functions, social welfare is strictly improved. The analysis is extended to the case in which both the upstream monopolist's cost to serve the downstream firms and the downstream firms’ cost to produce the final good differ.