Pricing and Output Determination in Different Markets: Introduction

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Pricing and Output Determination in Different
Markets Introduction
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Prerequisite To be able to go through this
lesson, you should have read Chapter 6, Pricing
and Output Determination in Different markets of
the book Managerial Economics.
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• Chapter objective
• Upon completion of this lesson, you will be able
  to
• Describe the factors influencing pricing
  strategies.
• List the pricing strategies.
• Identify the market structure.
• Classify the market based on nature of
  competition.
• Describe the short term and long term
  equilibriums in the various markets.

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Pricing and Output Determination in Different
Markets Introduction
Demand and Supply are the powerful forces
operating in any market. They act and react with
each other to determine the price of a product.
We shall see the market forces that are
constantly at work and affect the pricing
decisions. Let us first see the factors
influencing pricing strategies.
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Pricing and Output Determination in Different
Markets Factors Influencing Pricing Strategies
Costs
The factors influencing pricing strategies can be
summarised in four categories
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a
Business Objectives
b
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Click each Category to know the factors.
Costs In order to make a profit, a business
should ensure that its products are priced above
their total average cost. In the short-term, it
may be acceptable to price products below total
cost if this price exceeds the marginal cost of
production. This ensures that the sale still
produces a positive contribution to fixed costs.
c
Customers
Competitors
d
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Pricing and Output Determination in Different
Markets Factors Influencing Pricing Strategies
The factors influencing pricing strategies can be
summarised in four categories
1
Costs
a
Business Objectives
b
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Click each Category to know the factors.
Business Objectives Every business has an
objective. Achieving the objective depends upon
its products and services, in particular the cost
at which these products and services are provided.
c
Customers
Competitors
d
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Pricing and Output Determination in Different
Markets Factors Influencing Pricing Strategies
The factors influencing pricing strategies can be
summarised in four categories
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Costs
a
Business Objectives
b
2
Click each Category to know the factors.
Customers A business should price its products
as per customer expectations. Failing to do this
can lead to unrealistic demand forecast which
will lead to ineffective business and production
planning. Ideally, a business should attempt to
quantify its demand curve to estimate what volume
of sales will be achieved at given prices.
c
Customers
Competitors
d
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Pricing and Output Determination in Different
Markets Factors Influencing Pricing Strategies
The factors influencing pricing strategies can be
summarised in four categories
1
Costs
a
Business Objectives
b
2
Click each Category to know the factors.
Competitors If the business is a monopolist,
then it can set any price. At the other
extreme, if a firm operates under conditions of
perfect competition, it has no choice and must
accept the market price. In reality business is
usually somewhere in between. So the chosen price
needs to be very carefully considered relative to
those of close competitors.
c
Customers
Competitors
d
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Pricing and Output Determination in Different
Markets Link Between Price And Business
Objectives
Now the most obvious question you might ask, is
what is the link between price and business
objectives? How does one affect the other? Why
does this happen? Every business has some very
basic objectives. Let us understand these
objectives and their correlation with the Pricing
Strategy.
Click each Objective to view its correlation with
the Pricing Strategy.
To Maximize Profits Although the maximisation
of profits can have negative connotations for
the public, in economic theory, one function of
profit is to attract new entrants to the
market. The additional suppliers keep prices at
a reasonable level. By seeking to differentiate
their product from those of other suppliers, new
entrants also expand the choice to consumers, and
may vary prices as niche markets develop.

• Objectives
• To Maximise Profits
• To Meet a Specific Target Return on Investment
  (or on net sales)
• To Achieve a Target Sales Level
• To Maintain or Enhance Market Share
• To Meet or Prevent Competition

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b
c
d
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Pricing and Output Determination in Different
Markets Pricing Strategies
Let us now understand the best pricing
policy/strategy in particular situations.
Skimming Pricing Strategy Charges a high price
because of a substantial competitive advantage,
but price inevitably falls due to increased
supply. In the 1970s, watch manufactures employed
other marketing strategies and pricing approaches
in a skimming approach, once other manufacturers
entered the market and produced watches at a
lower cost.
Penetration PricingThe price charged for
products and services is set artificially low in
order to gain market share. Once this is
achieved, the price is increased. This approach
is being used by Reliance India Mobile in order
to attract new customers
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Pricing Strategies Matrix
Penetration Pricing Strategy
Skimming Pricing Strategy
High
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Premium Pricing Use a high price where there is
a uniqueness about the product or service. This
approach is used where a substantial competitive
advantage exists. Such high prices are charged
for luxuries such as Taj Hotel rooms, and
Concorde flights.
Price
Premium Pricing Strategy
Economy Pricing Strategy
Economy Pricing This is a no frills low price.
The cost of marketing and manufacture are kept at
minimum. Supermarkets often have economy
brands for soups, soaps, and other fast moving
onsumer goods.
Low
2
Low
High
Quality
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Pricing and Output Determination in Different
Markets Pricing Strategies
Besides premium pricing, penetration pricing,
economy pricing and skimming pricing, there are
many more pricing policies/strategies. Given
below are a few of them.
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Click each Strategy to know more about it.
Psychological Pricing This approach is used when
the marketer wants the consumer to respond on an
emotional, rather than rational basis. For
example, shops like 49 99 or 9 9 Dollar
Shop come under price point perspective.

1. Psychological Pricing
2. Product Line Pricing
3. Optional Product Pricing
4. Captive Product Pricing
5. Product Bundle Pricing
6. Promotional Pricing
7. Geographical Pricing
8. Value Pricing
9. Price Discrimination
10. Pre-emptive Pricing
11. Going-rate Pricing
12. Full Cost Pricing
13. Extinction Pricing
14. Expansionistic Pricing
15. Prestige Pricing
16. Average Cost Pricing

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b
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h
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j
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Pricing and Output Determination in Different
Markets Pricing Strategies
Now that you have seen the various pricing
strategies, lets have a knowledge check.
Select the strategy that you think is appropriate
and click Submit.
You present to a firm, a substantial competitive
advantage and hence you charge a high price.
However, the advantage is not sustainable.
Identify the pricing strategy that you will be
using here.
Economy Pricing Promotional Pricing Prestige
Pricing Value Pricing Price Skimming
Premium Pricing
Submit
Solution
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Animation Screen
Pricing and Output Determination in Different
Markets Models of Market Structure
Now that we have studied the various pricing
strategies, let us study the various markets and
market classification. Economists classify a
firms market structure based upon its producing
and selling environment. A Market Structure is
a simplified model of market of a given product
with three defining characteristics the
number of firms, the ease of entry and exit
from the market, the degree to which the
product is differentiated.
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Animation Screen
Pricing and Output Determination in Different
Markets Four Models of Market Structure
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Now that we know the defining characteristics,
lets have a in-depth look at the market
structure.
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Models of Market Structure
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Perfect Competition
Monopoly

• Monopolistic Competition

Oligopoly
Number of firms many Ease of entry/exit easy
Type of product differentiated
Number of firms one Ease of entry/exit no
entry possible Type of product unique
Number of firms few Ease of entry/exit
difficult Type of product standardized or
differentiated
Number of firms many Ease of entry/exit easy
Type of product homogeneous (standardized)
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Animation Screen
Pricing and Output Determination in Different
Markets Short Term and Long Term Equilibrium
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Equilibrium exists when the quantities of a good
or resource demanded and supplied are equal. The
type of market the firm is in decides the effect
of equilibrium on the firm. These effects are
both short term and long term.
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Accounts
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Pricing and Output Determination in Different
Markets Short Term and Long Term Equilibrium
Perfect Competition
The four key characteristics of perfect
competition are (1) large number of small firms,
(2) identical products sold by all firms, (3)
freedom of entry into and exit out of the
industry, and (4) perfect knowledge of prices and
technology. These four characteristics mean that
a given perfectly competitive firm is unable to
exert any control whatsoever over the market.
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Click Short Term Equilibrium tab to read about it
in more details and click Long Term Equilibrium
tab to read about it in more details.
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Short Term Equilibrium
Long Term Equilibrium
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If firms are perfectly competitive, industry is
making short term surplus (profits), more firms
will enter the industry. In the long run this
will increase the market supply of the product
and reduce the market price as well as the
profits until all firms in the industry make a
normal profit (break even )
Show graph as well as the notes under it, as
shown in Fig 9.2 For Short Term Equilibrium.
9.3 for Long Term Equilibrium, in the SME notes.
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Pricing and Output Determination in Different
Markets Short Term and Long Term Equilibrium
Monopoly
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The four key characteristics of monopoly are (1)
a single firm selling all output in a market, (2)
a unique product, (3) restrictions on entry into
and exit out of the industry, and more often than
not (4) specialized information about production
techniques unavailable to other potential
producers.
In a monopoly market, a monopolist is a price
setter and not a price taker. Since a monopolist
is the sole seller of a product for which there
are no close substitutes, he can sell more units
of the product only by lowering its price.
Click Short Term Equilibrium tab to read about it
in more details and click Long Term Equilibrium
tab to read about it in more details.
b
a
Short Term Equilibrium
Long Term Equilibrium
As long as the demand it faces and its cost
curves remain unchanged, the monopolist will
continue to earn profits in the short as well as
long run because the entry into the market is
blocked. It is to be noted that when the
monopolist is in long-run-equilibrium it is also
and necessarily in short-run-equilibrium.
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Show graph as well as the notes under it, as
shown in Fig 9.6 9.7, in the SME notes.
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Pricing and Output Determination in Different
Markets Short Term and Long Term Equilibrium
Monopolistic Competition
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The four key characteristics of monopolistic
competition are (1) large number of small firms,
(2) similar but not identical products sold by
the firms, (3) relative freedom of entry into and
exit out of the industry, and (4) extensive
knowledge of prices and technology.
Click Short Term Equilibrium tab to read about it
in more details and click Long Term Equilibrium
tab to read about it in more details.
b
a
Short Term Equilibrium
Long Term Equilibrium
In a monopolistic competition, every producer is
selling his product under a particular brand or
trade name. Before fixing the price he has to
take into account the prices of substitutes.
The prices charged by rivals enable him to fix
his price. In a short run, a firm working under
monopolistic competition can earn
supernormal profit as well as incur a loss or may
earn normal profits.
Show graph as well as the notes under it, as
shown in Fig 9.9 9.10, in the SME notes.
Click Next to continue.
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Pricing and Output Determination in Different
Markets Short Term and Long Term Equilibrium
Oligopoly
The characteristics of an oligopoly industries
are (1) Few (two, three, four) sellers who
control all or most sales, (2) Barriers to entry
(it is difficult to start a new company in an
oligopoly industry), (3) Firms in this industry
are interdependent (one firms actions very much
affect a rival firms well being), (4)
Advertising is prevalent (firms frequently
advertise on a national scale).
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• Major theories about oligopoly pricing
• Oligopoly firms collude to charge the monopoly
  price.
• Oligopoly firms compete on price so that price
  and profit will be the same as a competitive
  industry.
• Oligopoly price and profits will be between the
  monopoly and competitive ends of the scale.
• Oligopoly prices and profits are 'indeterminate
  (oligopoly seen as difficult to model).
• Pricing strategies for business within an
  oligopoly can be expected to change over time.
• No one theory has been found that explains all
  the different types of behaviors seen in an
  oligopoly market.

Click Kinked Demand Curve graph to view it in
detail.
a
Graph 22.1
Show graph as well as the notes under it, Fig.
22.1 (Page 430 from Mithani) and Fig. 10.4 (Page
349 from Peterson) in the same order one-by-one
from the SME notes.
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Pricing and Output Determination in Different
Markets Link Between Price And Business
Objectives
Now that we have seen the market structure, lets
have a knowledge check.
To match a type of market to its proper product
description, drag the types of market to the
placeholders in the product description column.
Click Submit when you are done.
Description Type of Elasticity
It refers to market wherein the products are all standardized. i. Oligopoly Market
It refers to market in which the products are highly differentiated. ii. Perfect Competition
It refers to market in which the products are either all standardized or differentiated. iii. Monopolistic Competition
Submit
Solution
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Pricing and Output Determination in Different
Markets Summary
In this chapter, we have seen pricing strategies,
market structure and classification, along with
the short and long term effect of the market on
the firm and its planning and operation.

• You should now be able to
• Describe the factors influencing pricing
  strategies.
• List the pricing strategies.
• Identify the market structure.
• Classify the market based on nature of
  competition.
• Describe the short term and long term
  equilibriums in the various markets.

Previous