The Pricing Theories and Techniques Under Different Market Structures
The determination of pricing is a critical aspect of business economics. However, the executive managers are mandated to come up with financial decisions basing on the knowledge they have and their judgment. This calls upon these managers to familiarise with the rational and assumptions behind the pricing decisions which helps to analyse the customer behaviour and the market needs, and trends. This assignment will therefore, focus on the application of the pricing theories under the different market structure to make decisions.
The market structure is the number of business organisations in the market that supply or manufacture similar products or provide identical services. The market structure is known to influence the supply of different commodities and the behaviour of business firms. When the competition is stiff, each organisation aims to dominate over the other and the objects to create barriers for entries of similar companies intending to join the market. However, price fixations is a vital managerial function that determines the sales to be made and the outcomes regarding of the market shares. When the firm sets up the price for its products and services too high, the consumer might not be able to afford whereas when the price is set too low, the firm may not achieve the set targets concerning the profits and annual returns. Concisely, these prices are influenced by different market structure conditions including the perfect competition, oligopoly, and the monopoly market structures.
In this structure, the numerous buyers and sellers are well informed while the commodity pricing is beyond the control of individual firms with the absence of the monopoly elements. This implies that the demand price elasticity is finite for every firm. The pricing decisions under perfect competition conditions are highlighted below.
The market price for perfect competition is determined by the balance between the supply and demand in a short run or a market period. The market period is claimed to be a short time where the maximum supply of goods is limited by the existing stock thus the market cannot take in more produce in spite of an increase in demand therefore, making the firms to sell all the current commodities at their premises.
For the case of perishable products, the supply is limited to the quantity available for that market period. Since the product cannot be stored until the next period, it must be sold out irrespective of the pricing decision made under this condition.
Perfect Competition
For the non-perishable goods, some can be stored for the next market period thus there will be two critical pricing levels in this condition. If the prices are very high, the seller will be ready to release the entire stock to the market whereas if the prices are set low, the seller might stock the product to wait for the next market period with higher prices.
A monopoly exists when a single firm is the sole producer of a certain product or service with no close competitors. Under this market condition, the monopolist is the price maker where they set their prices without the fear of rival firms entering into the market. (Iyer and Church, 2018) states that under this market structure, the market power is controlled by the supplier firm that liberates prices according to their target, which can result in exploitation of the buyers and consumers.
This is a condition where a few businesses are competing for a particular product in the market. This takes two forms on the pricing decisions where the firms were small, each controls a certain portion of the market share of the total supply. However, a slight change in pricing by one firm is acted upon by other firms in efforts to stay above that firm in the market. The entry for new competitors is difficult as it is neither free nor barred but determined by the pricing to be put in place by the firm.
According to (Gostkowski, 2018, pp.68-78), the elasticity of demand is the degree of sensitivity in the demanded quantity of a product to the change in factors related to that product. It is varied with the factors causing the change in demand of the services and the commodities. The managers apply this in making pricing decisions that would lead to highest sales and the profits. Additionally, in a monopolistic market where the specific companies control the prices, the elasticity of demand analysis is useful in fixing the prices to ensure they are not very high to make the make the demand low. This ensures that the business organisation stays on the market with a sustained supply and demand equilibrium. However, if the business handles the inelastic products, it can earn profits by setting the prices high while when dealing with the elastic products the supplier must keep the prices low to attract the consumers. The elasticity of demand analysis determines these factors.
Determinants for the Price Under Perfect Competition
This is technique is used by the managers in an optimal allocation of the resources. Marginal analysis is the examination of the additional benefits resulting from an activity in comparison to the additional costs invested into the same activity. The tool makes use of the geometric relations between the marginal and the actual totals thus providing a fruitful basis of resource allocation in managerial levels. To make a decision using this technique, it is important to determine the number of resources you are willing to allocate for the intended activity. This is known as the marginal benefits, which are the satisfaction gained because of an additional unit. The intensity of the decisions made is based on the degree of the marginal net profit, which is the difference between the marginal costs, and the marginal benefits of an activity or an action as summarised below.
Optimisation in economics refers to the efforts to find an alternative that is cost effective and has the highest achievable performance within the given constraints whereby the desired factors are maximised while the undesired are minimised. In order to optimize the profit decisions, the factors to be considered are the cost of operations, supply and demand concepts in the microeconomic theory.
This is the principle used by the managers to make pricing decisions using the concepts of demand and supply to evaluate the most suitable prices for the goods and services. The microeconomic theory aims at attaining an equilibrium in the supplied goods meets the market demand among the consumers. To achieve the balance, the objective is to locate the points of prices that allow the supplied products to be reasonably covered by the potential consumers. The theory further aims to address the business risks which are brought about by hiking prices making the buyers to avoid the products resulting in excess supply. However, setting the rates too low may result in deficiencies in supply due to higher demand. Therefore, the economists use this theory in soughing to bring the demand and the supply close to an economic or market equilibrium as illustrated in the diagram below.
Figure 1: Equilibrium between Supply and Demand
The theory can be applied by individual small business owners to set their market prices to achieve the desired profits and maintain a constant supply of the goods and services. For instance, the theory can be used to determine the trends in the price of a commodity concerning the quantity of a commodity. This involves studying the interceptions of the markets to evaluate the general equilibrium of the volumes and prices as presented in the diagram below.
The Market of a Perishable Commodity
Figure 2: Application of Microeconomic theory in the market price
An effective pricing strategy helps an organisation to determine the price points that will enhance maximum returns on profits. When optimising the profit decisions, the pricing strategies that can be applied are discussed below.
This strategy is aimed to attract the buyers by lowing the prices on the goods and services offered. This tends to result to initial loss on the income while the firm penetrates the market. However, after a sufficient number of buyers is attained due to massive sales, the business slightly raises the prices to recapture the lost income and gain profits.
Economy pricing strategy aims to target low-price consumers by minimising the costs associating with production and marketing to sustain the low-priced goods and services. This strategy is effective for bigger organisations but can be very dangerous to smaller firms.
The skimming strategy involves setting the prices high during the initial stages of a business with the aim to maximize the sales then the company progressively lowers the prices in case there are new entries for competitors. The benefit of skimming help the business to make maximum sales during the initial sales while the lowering prices over time helps to attract the price-conscious customers. Additionally, the high prices bring the perception of high quality among the consumers.
In this approach, the firm sets its initial costs higher than their competitors do. The strategy is useful for small business that deals with unique goods and services.
The buddle strategy of pricing is applied in small industries where the products are sold in multiple, and the price lowered compared to purchasing individual goods. The approach is an effective way of moving the unsold goods from the business premises and stores.
This strategy is used by the marketers to invoke emotional responses rather than logical responses during the purchase of goods at the sell points. For instance, most businesses put the price tags by less than one unit (for $300, the price is tagged as $299). This creates an illusion of enhanced value for the customers as most buyers pay more attention to the first digit than to the last on a price tag.
References
Gostkowski, M. (2018). Elasticity of Consumer Demand: Estimation Using a Quadratic Almost Ideal Demand System. Econometrics, 22(1), 68-78.
Iyer, V., & Church, N. (2018). The Linking Process: Product Life Cycle, Diffusion Process, Competitive Market structures and Nature of the Market. Red Internacional de Investigadores en Competitividad, 8(1).
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