1. Pricing and Output Determination in Different Markets: Introduction Next Static Screen 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. 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’. Click Next to continue. 3 1 2

2. 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. Pricing and Output Determination in Different Markets: Introduction Next Static Screen Previous 1 2 Click Next to continue.

3. The factors influencing pricing strategies can be summarised in four categories: Pricing and Output Determination in Different Markets: Factors Influencing Pricing Strategies Competitors NextPrevious 2 1 Interactive Screen 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. Click each Category to know the factors. a b c d Business Objectives Costs Customers

4. The factors influencing pricing strategies can be summarised in four categories: Pricing and Output Determination in Different Markets: Factors Influencing Pricing Strategies Competitors NextPrevious 2 1 Interactive Screen Click each Category to know the factors. a b c d Business Objectives Costs Customers 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.

5. The factors influencing pricing strategies can be summarised in four categories: Pricing and Output Determination in Different Markets: Factors Influencing Pricing Strategies Competitors NextPrevious 2 1 Interactive Screen Click each Category to know the factors. a b c d Business Objectives Costs Customers 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.

6. The factors influencing pricing strategies can be summarised in four categories: Pricing and Output Determination in Different Markets: Factors Influencing Pricing Strategies Competitors NextPrevious 2 1 Interactive Screen Click each Category to know the factors. a b c d Business Objectives Costs Customers 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.

7. Pricing and Output Determination in Different Markets: Link Between Price And Business Objectives NextPrevious Objectives: 1.To Maximise Profits 2.To Meet a Specific Target Return on Investment (or on net sales) 3.To Achieve a Target Sales Level 4.To Maintain or Enhance Market Share 5.To Meet or Prevent Competition 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. c d e Click each Objective to view its correlation with the Pricing Strategy. 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. 12345 a b Interactive Screen

8. Pricing and Output Determination in Different Markets: Pricing Strategies NextPrevious Let us now understand the best pricing policy/strategy in particular situations. Pricing Strategies Matrix Penetration Pricing Strategy Premium Pricing Strategy Skimming Pricing Strategy Economy Pricing Strategy Low High Price Quality Click Next to continue. 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. Penetration Pricing: The 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 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. 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. 1 2 2 2 2

9. Pricing and Output Determination in Different Markets: Pricing Strategies NextPrevious 1 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 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. a b c d e f g h i j k l m n o Interactive Screen Click each Strategy to know more about it. Besides premium pricing, penetration pricing, economy pricing and skimming pricing, there are many more pricing policies/strategies. Given below are a few of them. p

10. Pricing and Output Determination in Different Markets: Pricing Strategies Now that you have seen the various pricing strategies, lets have a knowledge check. NextPrevious Select the strategy that you think is appropriate and click Submit. Economy Pricing Promotional Pricing Prestige Pricing Value Pricing Price Skimming Premium Pricing SubmitSolution Interactive Screen 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.

11. Pricing and Output Determination in Different Markets: Models of Market Structure NextPrevious Now that we have studied the various pricing strategies, let us study the various markets and market classification. Economists classify a firm’s 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. Click Next to continue. 2 1 Animation Screen

12. Pricing and Output Determination in Different Markets: Four Models of Market Structure Models of Market Structure NextPrevious 2 1 Perfect CompetitionMonopoly 3 Now that we know the defining characteristics, lets have a in-depth look at the market structure. 4 Monopolistic Competition Oligopoly Number of firms: many Ease of entry/exit: easy Type of product: homogeneous (standardized) Number of firms: one Ease of entry/exit: no entry possible Type of product: unique Number of firms: many Ease of entry/exit: easy Type of product: differentiated Number of firms: few Ease of entry/exit: difficult Type of product: standardized or differentiated Click Next to continue. Animation Screen

13. Pricing and Output Determination in Different Markets: Short Term and Long Term Equilibrium NextPrevious 1 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. 2 Click Next to continue. Accounts 1 Animation Screen

14. Pricing and Output Determination in Different Markets: Short Term and Long Term Equilibrium NextPrevious 1 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. Click Next to continue. Perfect Competition 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. 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. Interactive Screen Short Term EquilibriumLong Term Equilibrium a b

15. Pricing and Output Determination in Different Markets: Short Term and Long Term Equilibrium NextPrevious 1 Click Next to continue. Monopoly 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. 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. Show graph as well as the notes under it, as shown in Fig 9.6 & 9.7, in the SME notes. 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. Interactive Screen Short Term EquilibriumLong Term Equilibrium 1 b 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. a

16. Pricing and Output Determination in Different Markets: Short Term and Long Term Equilibrium NextPrevious 1 Click Next to continue. Monopolistic Competition 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. 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. Interactive Screen Short Term EquilibriumLong Term Equilibrium b 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. a

17. Pricing and Output Determination in Different Markets: Short Term and Long Term Equilibrium NextPrevious 1 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 firm’s actions very much affect a rival firm’s well being), (4) Advertising is prevalent (firms frequently advertise on a national scale). Click Next to continue. Oligopoly 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. 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. 2 Interactive Screen Graph 22.1 a Click Kinked Demand Curve graph to view it in detail.

18. NextPrevious Now that we have seen the market structure, lets have a knowledge check. DescriptionType 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 iii i ii SubmitSolution Pricing and Output Determination in Different Markets: Link Between Price And Business Objectives 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. Interactive Screen

19. Pricing and Output Determination in Different Markets: Summary Previous Static Screen 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.