The focus of this paper is to discuss the pricing strategies across the various market structures: perfect competition, monopolistic competition, oligopoly, and monopoly. A brief description of these markets will be presented, which pays attention to the definitions. Additionally, all the major features of the market structures are outlined. Lastly, a section on pricing strategies under each market structure description will be used to outline how businesses conduct their pricing practices.
Perfect competition describes a market structure comprising indefinite number of buyers and sellers. The presence of many buyers and sellers is the most distinguishing aspect of this market system (Islam, 2019). The fact that there are no obstacles to enter or exit contributes to this trait. Additionally, the sellers often offer identical products and services, which makes perfect competition a market for identical standardized products. Each of the players has small market shares, a situation that is also accompanied by buyers being aware of products and their prices. Therefore, the decisions of both producers and consumers are based on this information that is free and accessible to everyone. One business cannot alter prices and hope to make a significant impact on the market. for this reason, entities in perfect competition are regarded as price takers because they can only sell at the price set by the market. The properties of perfect competition make it more hypothetical than real because economists do not believe it to be a possibility in real life.
Even though perfect competition may not exist, there are many case examples of markets that display many of its characters. For instance, the foreign exchange comprises many traders dealing in similar currencies, which makes the product homogenous. Millions of traders are involved in this market with trillions of dollars worth of trade accomplished daily. However, the only argument against it is that not all traders have ‘perfect’ information, which means that traders might have a significant advantage over others (Boyce, 2021). Other markets include agriculture where there are many farmers producing similar food and cash crops and consumers that range from households to businesses that purchase products for intermediate production.
The key determinant of prices is the interplay between demand and supply where suppliers produce only what buyers can consume and at the price that they can afford. As mentioned earlier, the firms in perfect competition are price takers because they have an insignificant influence on the market prices (Paul, 2021). Using the supply and demand graph, the intersection point between the supply and demand curve indicates the optimum price when the market is at an equilibrium status. A business will seek to sell at this price because raising the prices reduced the demand for its products. Buyers can find alternatives from entities selling identical products and relatively lower prices. Therefore, it can be argued that the market is always in charge of the price determination function.
However, it is also important to acknowledge that firms cannot sell at prices lower than the production costs. A markup pricing strategy, also called cost-plus pricing, allows businesses to add a fixed percentage on top of the costs of production. However, such a strategy often ignores consumer demand and competitor prices but remains popular among wholesalers and retailers. In perfect competition, it can be assumed that all businesses experience the same market conditions, which also include such costs as raw materials and labor. In such a case, the competition and the force of demand and supply can influence the rate of markup set by the firms. In many cases, the entities will often adopt the prevailing market prices as the main pricing strategy.
Monopolistic competition can be described as a market structure comprising many sellers selling similar products but are not perfect substitutes to each other. Therefore, product differential becomes one of the major defining features that distinguish this structure from the perfect competition (Islam, 2019). Entry and exit obstacles are also present in monopolistic competition, although they are relatively minimal. Therefore, the possibility of new businesses coming into the market and the existing ones leaving remains high. Due to the differentiation, the actions of one entity do not necessarily affect those of others. As will be described later on, even the pricing decisions of firms are hardly affected by those of others in the industry. As such, monopolistic competition can also be referred to as imperfect competition.
From the above description, it emerges that monopolistic competition is only possible when there is a presence of many businesses with differentiated products. These characteristics mean that the firms are not price takers where decisions are based on the prevailing prices. As price makers, sellers can determine the best prices that maximize their profits. The forces of demand and supply may also come into play but not with the same influence as in perfect competition. Many firms find themselves making economic profits only in the short run and no profits in the long run due to their ability to determine prices (Islam, 2019). The rationale is that high prices and profits attract new businesses, raise competition, and prices fall back down. The competition is low, which means that the firms are inherently inefficient in their operations. Inefficiencies could drive costs higher, which will ultimately raise the prices paid by the consumers.
The pricing strategies in monopolistic competition are determined by one key aspect: that the enterprises are price makers as opposed to takers. Therefore, every company sets its own prices based on several factors, including the costs of branding and advertising. Therefore, many strategic options are available for firms when setting their prices. For example, price skimming can be used when the businesses introduce a product that the competitors do not have, which means high prices can be set. As mentioned earlier, profitability attracts new players, which drives both the profits and prices down, which means those using the skimming strategy will eventually lower prices to remain competitive. Another strategy is premium pricing for those entities that claim to produce higher-quality products. Luxury and lifestyle products are often priced using this strategy in monopolistic competition (Islam, 2019). Lastly, there is also the possibility of markup pricing, which allows producers to set a fixed percentage of profit over the costs. In monopolistic competition, the operational inefficiencies and the autonomy in price control mean customers will likely be paying higher prices.
Regarding pricing strategies in monopolistic competition, it is important to understand that the organizations produce based on their capacity as opposed to the demand. Due to differentiation, the companies can set any prices they desire because the main selling points are packaging, branding, and advertising. The lack of direct substitutes means that the differentiated products can be marketed separately and the consumer choices will not be influenced by the prices only. Such aspects as brand loyalty and the perception of quality play a bigger role in consumer buying behaviors.
Oligopoly, or oligopolistic competition, is a market structure comprising a few firms and potentially many buyers. With such a configuration, one of the businesses has the capacity or ability to prevent others from influencing various market dynamics, including the price (Islam, 2019). The simplest form of an oligopoly is a duopoly, which is a market served by only two entities. With minimum competition, oligopolies can engage in activities that allow them to achieve above the normal market returns. A key characteristic is that they are price makers and not takers, which means that they are open to controlling prices. However, the control over pricing does not mean that the competitors do not have an influence. In many cases, cooperation between oligopolies has allowed them to agree on prices and other competition terms to ensure mutual survival. The entry and exit of oligopolies are subject to legal, economic, and technological factors. However, the fact that most oligopolies are large businesses requiring huge capital means that smaller businesses will find it difficult to enter. Additionally, anti-trust laws and other government policies may be used to discourage oligopolies and their practices.
An important point to emphasize is the size of oligopolies and the reason for their existence. In most cases, companies in such historical industries as oil, railroads, and steel manufacturing have operated as oligopolies. The amount of capital needed to build these industries are massive and only a few organizations can effectively operate in such markets. In addition to blocking new entrants, the size of oligopolies makes them slow in innovating, which ultimately harms the consumers. Inflexibility means slow adaptation and increases inefficiencies, which result in operational inefficiencies. Therefore, productions costs are often high, which tends to reflect in the prices charged for their products and services.
The control that oligopolies have over the market means that they are price makers. Oligopolies have the freedom to control their prices, especially because their products are largely differentiated. Multiple pricing strategies can be used by such organizations, including restrictive pricing. Oligopolies can set prices such that other firms will not be able to enter the market, a strategy called price discrimination (Paul, 2021). In such cases, the enterprises take advantage of economies of scale and offer extraordinarily low pricing as a result of their vast size. As opposed to the monopolistic competition where high prices attract new businesses, restrictive pricing characterized by extremely low profit levels is used to drive them away. This can be considered to be one way of maintaining power over the market.
An important aspect of oligopolies is their decisions are highly influenced by the competitors. Therefore, collusion is often common where entities come together to make joint decisions regarding prices and other aspects. Therefore, a monopoly price could emerge from oligopolies as they all seek to maximize their profits. The argument is collusion creates cartels that can operate as a monopoly. In the long run, oligopolies research their competitors and incorporate their reactions when setting prices. However, the businesses often compete through differentiation as opposed to price wars.
A monopoly implies market system in which a single vendor serves a large number of customers. In other terms, it refers to a situation in which a single company dominates an entire industry (Islam, 2019). Such businesses often sell a unique product that no other firm has, which means there is no competition. In many cases, monopolies are formed because no other entity has the capacity or capital needed to enter a market. in other instances, resource ownership, licenses, patent, and copyright may be the key factor in the creation of a monopoly. The argument is that when a product is patented, copyrighted, or licensed, only the holder of any of these legal rights will be allowed by the government to produce the commodity or service. Even if the government is absent, some businesses may require extremely high capital to start. A good example is when a company sets up a railroad in a country, which requires billions to build, maintain, and operate. In such a case, only an organization with these billions will contemplate entering such a venture.
Monopolies are often discouraged by regulators because they can be counterproductive. Therefore, the formation of such market structures takes place only under extreme circumstances where even the government efforts cannot work. Other monopolies can be supported by the government because of the type of product or service they offer. For example, a country may have only one electricity supplier backed by the government to ensure it remains afloat. Even without discouraging new entrants, some monopolies are tolerated because their failure could be detrimental to an economy. There are few cases where large businesses gain operational efficiencies that allow them to offer the best prices to consumers. For essential products and services, such monopolies become important even to the government. Under normal circumstances, monopolies remain controversial because they can engage in roque activities, including price-gouging, which allows them to charge the highest possible prices. The lack of competition also means that quality and customer service can be overlooked without the firm suffering a real backlash from the market.
Pricing for monopolies can be considered the most straightforward decision because there are no competitors to present any tangible influence. Therefore, profit-oriented pricing is a practice that allows monopolies to achieve the highest possible profits. Such strategies as markup pricing can be deployed for two main reasons. First, the company does not have many factors to consider in the decision besides the costs of production and the desired profits. Second, monopolies can set the most lucrative profit markup on to of the costs to maximize profitability. Therefore, monopolies have to correctly determine the output levels that ensure high revenue. As such, the forces of demand and supply can be critical because the optimum price is that which consumers can afford and that matches the company output levels. Optimum profits are achieved when all goods produced are bought. Most importantly, monopolies also use price as a means of controlling the market. Therefore, the companies set prices at levels that d not attract new entrants due to the high profitability.
The case study selected is that of Coca-Cola, a carbonated soft drink company that operates in hundreds of countries across the globe. The market for carbonated drinks is served by Coca-Cola and a few other businesses, most notably Pepsi, which also offers tastes similar to Coca-Cola. Other examples across the world include Jones Soda, RC Cola, and Primo Water, all of which are based in North America. The number of the companies is relatively small, which makes a case for an oligopolistic market. Several other characteristics can be used to describe the market to illustrate why it is an oligopoly. First, despite similarities in tastes and type of product, there is an extreme level of differentiation throughout all the businesses. The branding and labeling mean that the products do not necessarily look similar. Furthermore, such companies and Coca-Cola have formulas that are protected by trademarks, which means that the exact product cannot be copied. Therefore, branding, advertising, and marketing become the main aspects of competition as opposed to pricing.
Throughout the company’s history and across multiple markets, Coca-Cola has deployed different pricing strategies depending on the condition. As a rapidly expanding business, Coca-Cola has often used a market penetration pricing strategy where it charges the lowest prices to drive up sales volumes. For the original Coke, it used cost-based pricing where it set a markup above the production costs (Jindal, 2017). However, the company has used price discrimination in many markets where it is fully established to discourage such major competitors as Pepsi and the smaller market entrants. Despite being an oligopoly, price discrimination works against smaller businesses that can not retaliate to the low prices. The large competitors may have been forced to lower their prices but Coca-Cola has not managed to discourage them or force them to close down.
Market pricing strategies have been shown to differ across the various market structures. The forces in the market determine what strategies can apply to each business. For example, the firms have been classified either as price takers or makers. The price makers have more power in the market, majorly due to the lack of competition. Monopolies and oligopolies are majorly undeterred by competitors when making pricing decisions. The same cannot be said for a perfect competition where industry elements force businesses to adopt the prevailing prices. Demand and supply play a critical role in a perfect competition where the actions of one business hardly affect the rest. Lastly, a case study of Coca-Cola has been presented to illustrate the choices that an oligopoly has in determining prices. The argument given to illustrate that Coca-Cola is an oligopoly is that only a few businesses offer carbonated drinks. Additionally, the competitors are relatively large and offer differentiated products. Price discrimination has worked for Coca-Cola in preventing new entrants while the existing firms have managed to cope with Coca-Cola.
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Jindal, S. (2017). Coca-Cola pricing strategy. LinkedIn.
Paul, C. (2021). Determinants of competitive intensity: Substitutability and pricing policy. Review of Economic Studies and Research Virgil Madgearu, 14(1), 5-16.