Managerial Economics, Pricing Strategies

   Managerial Economics, Pricing Strategies

1. Perfect Competition

1.1 Description

Perfect/pure market competition explains a market structure where competition is at its greatest level. In that market, there is a large number of buyers and sellers, firms can freely enter or exit the market and products produced in the market are homogenous, identical, and the outputs of products used in the production are not branded. This is the only market where the level of competition is at its greatest and neo-classical economists believe that it is the only market which is likely to give optimum outcomes to consumers. All the firms operating in this market are price takers, and this makes it hard for one firm to influence the prices of the products in this market.

Other characteristics of the pure market include market share lacking influence on the prices of commodities sold in the market. In this market, both the buyer and the seller have all the kind of information which they need about a particular product. The information of past, present and future prices are known to both buyers and sellers, and any person interested in transacting in this market can easily obtain the information and use it for their own purpose. The prices of products sold in the market are also known by all the parties interested in trading in a perfect market. Resources such as labor and capital are also considered perfectly mobile. There is freedom of entry or exit in this market.  Additional features of this market include no cost of advertisement, consumers having perfect knowledge about the market and the products sold in the market. As a result, the consumers can indulge in the rational decision-making process and make the most appropriate action on the type of the product which they want to buy and sell in the market. It is also assumed that there are no transportation costs incurred, and it is assumed that government intervention in this market does not take place.

• Pricing Strategies in Pure/perfect market

The pricing strategy in this market is simple, and firms are expected to accept the market prices offered at the market price. At this point, the decision to be made is no longer about the pricing decision in the market but production decision made in the market. In this market, firms maximize their profits when the marginal costs and marginal revenue are equals. Thus, marginal revenue equals the market price. The firms operating in this market also has the ability to determine whether or not they are likely to meet the operating costs. Firms which find it hard to meet their variable costs are likely to be forced to leave the market and be replaced with others which are ready to operate in the same market at prevailing market prices. Firms which meet their operating costs may stay in the market for a short run until they are able to meet all their operating costs. Therefore, in perfect markets, firms would always consider costs and the influence of those costs on the business.

2. Monopolistic competition

This model describes market structures where there are many firms competing against each, but each of these firms sells slightly different products. In monopolistic competition, there are many firms involve, but each firm sells products which are distinct from one another. Examples of monopolistic competition are stores which sell different types of clothing within the same market, restaurant or grocery which operate in the same market but sell different distinct products to the consumers. In the US, there are many restaurants which practice monopolistic competition and such firms often generate more profits due to the uniqueness of the products which the firm offer in the market. When the products are unique, monopolistic competitors practice what many considered to be like a mini-monopoly.  In this market, firms often compete with both the quality and pricing strategy of the products. Firms competing in a monopolistic market structure also compete with the flavor and the brand name used in such a market. Unlike perfect competition markets, monopolistic competition maintains spare capacity. Firms operating in a monopolistic competition market try to produce products which are different in several ways, such as products of different physical aspects, sell products in different locations and products of different perceptions.

2.1 Pricing strategy in monopolistic competitive markets

Each firm operating in the monopolistic competitive markets make independent decisions about the price and the outputs based on the type of product which they have sold and cost of production. There is sharing of information among the firms which operate in the market although it is not uniform as in the pure/perfect competition. Therefore, most firms set the prices of the products based on the quality of such product and not necessarily on what other competitors charge as prices of their products. There is a lot of freedom to enter or exit this market because firms produce products which are distinct from competitors.

One common feature of the pricing strategy in a monopolistic competitive market is that firms set the prices of their products. Since each firm set a distinct product from competitors, each company can successfully set the price, which it would like to sell the product in the market. However, since the products are expected to be unique and distinct, the prices charged in this type of market structure is dependent on the quality of the products. Most firms are operating in this market use branding, advertisement and packaging as one of the strategies of coming up with distinct products to sell in the monopolistic competitive market. Due to many competitors in the market, firms operating in this market may be guided by the prices which the competitors sell in the market.

3. Oligopoly

Oligopoly is derived from the Greek word of ‘Oligi’ which means few and ‘polein’ which means ‘to sell’. As a result, oligopoly is the market structure dominated by a few firms. The few firms which dominate this market share the information and other necessary resources among themselves making this market structure to be considered as highly concentrated. Oligopoly market is therefore characterized by few firms which sell homogenous or differentiated products to the customers. Oligopoly market structure lies in between pure monopoly and monopolistic competition where few sellers dominate the market and have a say on the type of products to be sold in the market. Some of the conditions which favor oligopoly include the existence of barriers to entry due to high entry cost. Some of the things which may make the entry cost to be high include legal fees or capital expenditure to start and run the business. There are two types of oligopoly. There are firms which produce homogenous products and sell these products in the market, and they are called pure or perfect oligopoly while there are firms which produce differentiated products and are called an imperfect or differentiated oligopoly.

Features of oligopoly include the ability of the firms to produce homogenous products and the few firms which operate in this market ensure their use their power to frustrate the firms which may have the desire to venture into the same market through various means because they control all the factors of production. Despite the existence of competition between the firms which operate in this market, the prices are always determined by the firms based on the agreement on the prices to sell to consumers because of lack of entry into the same market by other firms which would like to offer competition to the existing firms.

3.1 Oligopolistic Markets Pricing Strategy

When thinking of oligopolistic firms, it is highly important to note that the firms in this market set the prices of the products. In most cases, firms operating in the oligopolistic market set the prices whether collectively as cartels or under the agreed formula of leadership because the firms operating in such a market is motivated by the desire to make profits. The profit margins which firms which operate in this market make are huge because the firms collude to sell the products are prices which they consider to be favorable to themselves. All firms operating in this market try as much as possible to avoid competition based on the prices. Since oligopoly is motivated with the desire to make huge profits and at the same time, prevent others from entering the market, they are considered to be stable more than other market structures. However, there is a likelihood for the firms operating in this market environment to produce and sell products of low quality to the consumers in this market. In most cases, firms which operate in this market compete based on non-price competition which highlights the importance of producing high-quality products and conducts continuous advertisement of the products which the firm produce and sell in the market. There are different ways firms behave in the oligopoly. However, the behavior of firms in such a market is control with government regulation, the degree of contestability and the desire to maximize profits.

The possible outcome of firms operating in this market includes the possibility of collusion, price wars among the firms operating in this market and the possibility to set stable prices because of the concentration of many firms which compete in the market through non-pricing competition. The price wars are likely to favor consumer who operates in the same market because most firms in this market are likely to engage in price wars to increase their market share in the market.

It is important to note that collusion in this market is illegal, and the government can take necessary measures against firms found guilty of engaging in such activities. However, tacit collusion among the firms may be hard to spot hence the need for the government to take necessary actions to monitor the market and protect the consumers from exploitation constantly. In most countries, oligopoly firms are run by the government for fear of exploitation of the consumers if such firms were to be left unmonitored. Other characteristics of oligopoly include interdependence of the market, which simply indicate that firms which operate in the market are meant to be cautious with respect to the action which the competing firms take. Each firm advertises its products on a frequent basis with the intention of reaching more customers in the market and increase the market share of the company in the global market. If one company conduct reminder advertisement than the competitors, there is a possibility of the competitors to respond with the same for fear of being forced out of the market due to competition.

However, one important thing to note from oligopoly is that firms which operate in this market would want to act independently and earn the maximum profits because the firms are the price setters. This also explains why the government would always try as hard as possible to ensure there is no exploitation in this market.

• Monopoly Market

The term monopoly simply means specific firms which firms operate in that market alone (sell alone). In this case, there is a single seller who sells a specific product in the market, and there is no strong competition in such a market. In a monopoly market is characterized by a single firm which produces and sell the product in the market. It is fair to state that there is entry and exit in the market because the products in this market are differentiated. There are no close substitutes for products sold in this market hence making the barrier to entry into this market difficult. In this market, it is hard to differentiate between a firm and industry. In the monopolistic market, firms have full control of the commodities sold in the market, and this allows the firms to set the prices of the commodities sold in this market.

A pure monopoly exists when there is a single firm which operates in the market. There is one seller in the market, but there is a large number of buyers. Monopolistic markets ensure there is no restriction to the market, but the firms which operate in the market can use their power to frustrate those who may want to venture into this market. Under this market, monopolist firms have full control over the products sold in the market. The demands of products are high due to small supply, but individuals who demand the supply of the products is high. The cost curve under monopoly is similar to that of perfect competition, but the determination of the equilibrium price in this market in the long-run is determined by the demands of products sold. The monopolist firms must also consider increasing the costs of products under the law of diminishing returns.

There are different types of monopoly. The monopolistic firms aim to maximize profits at the point where the marginal cost in this market is equal to marginal revenue. There is a multiplant monopoly which is associated with many plants which are working hard to maximize profit margins. There is also a bilateral monopoly which consists of single buyers and single sellers; hence there is a greater negotiation power in this market.

• The pricing strategy in the monopoly market

Since there are one producer and many consumers, the firms which operate in this market determine the price of commodities sold in the market. The firms are motivated by the desire to make profits and would try as much as possible to maximize the prices of the commodities which they sold in the market. The firms which operate in this market also take control of the natural resources. A good example of a monopoly is two ferries which operate in the same market to connect Small Island with the mainland. Since the competition in this market is restricted by the number of competitors. Since there is a barrier to entry into the market, it is hard for new entrants into the market. Legal monopoly often takes place when the government decide to give specific privileges to produce and sell products in this market. There are also different prices for different consumers due to the ability of the firms to practice price discrimination. Since buyers are many, the sellers in the market are expected to pay the prices indicated in this market.

In conclusion, there are two types of monopolies. There is an efficiency monopoly and legal monopoly. Efficiency monopoly exists when the firms produce new and distinct products through the use of technology due to the ability to produce unique and distinct products.  Due to the number of firms which operate in this market, there is price discrimination as firms decide on the price of the products they sell in this market. There is also the likelihood of the government to impose tariffs as one way of reducing the prices charge on products in the market. The most important thing about this market is that firms are concerned about profit maximization and would try as much as possible to try to impose the prices of the products which they sell.