PRICE DETERMINATION

SUBMITTED TO:- SUBMITTED BY:- RASHMI VISHKARMA ADITI TRIPATHI(1150810003)

ARCHANA DIXIT(1150810016)

MUDIT MISHRA(1150810030)

SAUMYA GUPTA(1150810045)

BABU BANARSI DAS:

Price.Determination Of Price.Factors Effecting Price.Factors Kept In Mind Before Determining The Price.

Perfect CompetitionDefinition.Meaning.Features.Perfect Competition Vs Pure Competition.Condition For Firms Equilibrium Under Perfect

Competition.Price Under Perfect Competition In Short Period.Price Under Perfect Competition In Long Period.

TOPICS OF DISCUSSION

Monopoly.Features.Demand & Revenue Under Monopoly.Determination Of Price & Equilibrium Under

Monopoly.Price Determination Under Short & Long Period.Price Discriminating Monopoly.Price & output determination under discriminating

monopoly.

Oligopoly.Types Of Oligopoly.Features Of Oligopoly.Sources Of Oligopoly Market.

DuopolyDefinition.Duopoly exists when.Best Response function.Types of duopoly.

Cournot Model.Stackelberg Model.

Advantages.Disadvantages.Assumption.

Definition of price.Definition of price determination.Objectives of price determination.Need of price determination.Factors effecting of price determination.Determination Of Price.Factors Effecting Price.Factors Kept In Mind Before

Determining The Price.

PRICE

DEFINITION OF PRICE

The value that one will purchase a finite quantity, weight, or other measure of a good or service.

OR

Price is the sacrifice that one party pays another to receive something in exchange.

Pricing is the process of determining what a company will receive in exchange for its product.

DEFENITION OFPRICE DETERMINATION

Maximize long-run & short-run profit.Increase sales.Increase market share.TO OBTAIN THE TARGET OF RETURN OF

INVESTMENT.Company growth.To obtain or maintain the loyalty and enthusiasm

of distribution and other sales personnel.

OBJECTIVES OFPRICE DETERMINITION

Market price serves as the adjustment mechanism to move markets to equilibrium.

NEED OF PRICE DETERMINITON

Factors

Your Cost

Market Deman

d

Your Profit

Industry Standard

s

Who is Your

ClientSkill Level

Experience

DETERMINITION OF PRICE

The process of price determination

Excess demand exists when, at the current price, the quantity demanded is greater than quantity supplied.

Excess supply exists when, at the current price, the quantity supplied is greater than the quantity demanded.

EXCESS DEMAND & SUPPLY

Excess supply = Qs - QD

supply

demand

price

quantity

p = $3

QD QS

EXCESS SUPPLYEXCESS SUPPLY

Excess demand = QD - QS

supply

demand

price

quantity

QDQS

EXCESS DEMANDEXCESS DEMAND

When there is EXCESS DEMAND for a good, price will tend to rise.

When there is EXCESS SUPPLY of a good, price will tend to fall.

Changes in consumer incomesChanges in the prices of substitutesChanges in the prices of complementsChanges in tastes

Changes in demand can be caused by

Changes in prices of inputs.Changes in technology.Changes in taxes.

Changes in supply can be caused by

INFERIOR & NORMAL GOODS

P

Q

supply

p0

q0

demand @ old beer price

demand @ higher beer pricep1

q1

Definition.Meaning.Features.Perfect Competition Vs Pure

Competition.Condition For Firms Equilibrium Under

Perfect Competition.Price Under Perfect Competition In

Short Period.Price Under Perfect Competition In Long

Period.

PERFECT COMPETITION

Perfect competition is the theoretical case illustrating the most competitive market possible.

PERFECT COMPETITION

• “Perfect Competition Exists In Markets Where There Are So Many Sellers That No One Is Big Enough To Have Any Appreciable Influence Over Market Price.”

-Prof. Bach

DEFINITION

The concept of competition is used in two ways in economics.Competition as a process is a rivalry among

firms.

Competition as the perfectly competitive market structure.

MEANING

Both buyers and sellers are price takers.A price taker is a firm or individual who takes

the market price as given.In most markets, households are price takers –

they accept the price offered in stores.

Both buyers and sellers are price takers.The retailer is not perfectly competitive.A store is not a price taker but a price maker.

feATURES

The number of firms is large.Any one firm's output is minuscule when

compared with the total market.Large means that what one firm does has no

bearing on what other firms do.

The firms' products are identical. This requirement means that each firm's

output is indistinguishable from any competitor's product.

There are no barriers to entry.Barriers to entry are social, political, or

economic impediments that prevent other firms from entering the market.

Barriers sometimes take the form of patents granted to produce a certain good.

Technology may prevent some firms from entering the market.

Social forces such as bankers only lending to certain people may create barriers.

There is complete information. Firms and consumers know all there is to

know about the market – prices, products, and available technology.

Any technological advancement would be instantly known to all in the market.

Firms are profit maximizers. The goal of all firms in a perfectly competitive

market is profit and only profit. Firm owners receive only profit as

compensation, not salaries.

Pure Competition IS ABSENCE OF MONOPOLY…

CHARACTERISTICS OF PURE COMPETITION

Large no. of buyers & sellers, Homogeneous Products,

Free entry & exit of firms.

PERFECT COMPETITION vs

PURE COMPETITION

It means the level of output where firm is maximizing it’s profits & therefore , has no tendency to change its output…

FIRMS EQUILIBRIUM

Marginal Cost Curve should cut the Marginal Revenue curve from below.

Conditions for Firms Equilibrium under Perfect Competition

Marginal Cost= Marginal Revenue= Average Revenue

AR and MR Curves Under Perfect Competition

 AR : Average Revenue curve MR : Marginal Revenue curve D : Demand)curve

AR=MR=D

It would be a horizontal line or parallel to the X-axis

Condition : 1

Marginal Cost= Marginal Revenue=Average Revenue

MC=MR=AR

Condition : 2

Marginal Cost Curve should

cut the Marginal Revenue

curve from below.

PRICE UNDER PERFECT COMPETITION IN

SHORT PERIOD

Short Period is defined as the time period in which the firm can change its output without changing the existing plant & machinery.

PRICE UNDER PERFECT COMPETITION IN SHORT PERIOD

Price will be affected because we cannot increase our supply acc. to demand..

Only variable factors can be altered..

Price set so in the short run is EQUILIBRIUM PRICE..

FEATURES

Price at which there is no tendency to change in the current situation..

Demand & Supply are equal…

EQUILIBRIUM PRICE

Pricing Decision is influenced by these two forces of DEMAND & SUPPLY…

PRICING DECISIONS

LAW OF DEMAND

Applicable for buyers…

Price is inversely proportional to the demand…

Applicable for suppliers…

Price is directly proportional to the supply…

DEMAND & SUPPLY LAW OF SUPPLY

CASES OF FIRM’S EQUILIBRIUM IN SHORT

PERIOD

SUPER-NORMALPROFITS

SHUTDOWN POINT

LOSS

NORMALPROFITS

SUPER-NORMALPROFITS

In situation of

firm’s

equilibrium

(i) MC=MR=A

R

(ii) AR>SAC

AR>SAC

NORMALPROFITS

In situation of

firm’s

equilibrium

(i) MC=MR=A

R

(ii) AR=min(SA

C)

AR=SAC

Firms can also earn zero profit or even a loss where MC = MR.

Even though economic profit is zero, all resources, including entrepreneurs, are being paid their opportunity costs.

In all three cases (profit, loss, zero profit), determining the profit-maximizing output level does not depend on fixed cost or average total cost, by only where marginal cost equals price.

ZERO PROFIT OR LOSS WHERE MC=MR

LOSS

In situation of

firm’s

equilibrium

(i) MC=MR=AR

(ii) AR<(SAC)

AR<SAC

The shutdown point is the point at which the firm will gain more by shutting down than it will by staying in business.

As long as total revenue is more than total variable cost, temporarily producing at a loss is the firm’s best strategy since it is taking less of a loss than it would by shutting down.

SHUTDOWN POINT

SHUT-DOWN POINT

In situation of

firm’s

equilibrium

(i) MC=MR=AR

= min SAVC

(ii) AR=SAVC<S

AC

AR<SAC : AR=SAVC

Equilibrium Price is determined at the point where the se forces are EQUAL…

Quantity demanded & supplied at this point is EQULIBRIUM QUANTITY…

UNDER THE SHORT-RUN PERIOD:

When the price is less /more than equilibrium price , then there will be tendency of movement of this equilibrium output & ultimately equilibrium price will prevail…

Demand & Supply forces counteract each other…

Industry :as price maker

Firm :as price taker.

 

Equilibrium in perfect competition

In the short run

PRICE UNDER PERFECT

COMPETITION IN LONG PERIOD

Long Period is defined as that period during which , all factors become variable factors & firms can change their scale of production…

PRICE UNDER PERFECT COMPETITION IN LONG PERIOD

Price that prevails in long-run is NORMAL PRICE..

Supply plays a dominant role in determination of long-run normal price..

Demand & Supply can be adjusted to every possible way as per requirement in long run..

FEATURES

Change all types of fixed factors..

Normal Price is always equal to minimum long run average cost..

Supply gets sufficient time to adjust itself according to changed conditions & demand..

In situation of

firm’s

equilibrium

(i) MC=MR=A

R= min LAC

(ii) AR(P)=LAC

AR=LAC

Definition.Features.Type.Demand & Revenue Under Monopoly.Price Discriminating Monopoly.Monopolistic competition.Advantages And Disadvantages.

MONOPOLY

“A pure monopoly exists when there is only one producer in a market. There are no direct competitors.”

-According to Prof. Ferguson

“Pure or absolute monopoly exists when a single firm is the sole producer for a product for which there are no close substitutes.”

-Mc Connel

DEFINITION

One seller & large number of buyers:

Under monopoly there should be single producer of the commodity.

The buyers of the product are in large number.

Only Seller can influence the price.

Monopoly is also an industry:• There is only one firm & the difference

between firm & industry disappears.

FEATURES

Restrictions on the entry of new firms:There are some restrictions on the entry of

new firms into monopoly industryThere is no competitor o a monopoly firm.

No close substitutes: If close substitute are available then the

monopolist will not be able to determine the price of his commodity as per his discretion.

Natural monopoly.Public monopoly.Legal monopoly.Simple and discriminating.Absolute monopoly and limited monopoly. State monopoly and private monopoly.

TYPE OF MONOPOLY

Graph of Natural monopoly

In a monopoly situation there is no difference between firm & industry. Accordingly, under monopoly situation, firm’s demand curve also constitutes industry’s demand curve. Demand curve of the monopolist is also average revenue (AR) curve. It slopes downward. It means if the monopolist fixes high price, the demand will shrink. On the contrary, if he fixes low price, the demand will expand. Under monopoly, average revenue & marginal revenue curves are separate from one another. Both slope downwards.

DEMAND & REVENUE UNDER MONOPOLY

Demand and revenue

Following facts come to light as a result of negative AR & MR:

Demand rises with fall in price (AR). Hence, by lowering the price, a monopolist can sell more units of the commodity.

AR is another name of price per unit, i.e., P=AR.

With fall in price, both AR & MR fall, but falling MR is more. Rate of fall in MR is usually more than rate of fall in AR.

AR is never 0, but MR may be 0 or even -ve.

Main objective of monopoly is: maximum profit from sale:

It can achieve in 2 ways: firm can either fix price it can fix the quantity to be sold the customers.

A monopoly firm fixes the price and leave the quantity to be determined by demand of customer in market During fixing the price ,monopoly firm has 2 imp conderation :nature of demandnature of supply of commodity.

Price determination under monopoly

Definition:

It is a market situation in which there are many seller of a particular product but the product of each seller is in some way differentiated in the mind of consumer s from the product of every other seller . - Leftwitch

MONOPOLISTIC COMPETITION

A: large number of sellers:B:freedom of entry or exit:C:non-price competition:D:product differentiation:

Feature of monopolistic competition

A Monopolist avoid duplication of staff, equipments, expenses are reduced. this means lower price and consumers benefit .

When there is single producer ,scale of production become large. large output reduced cost…

A monopolist needs not spend huge sum of money on wasteful and competitive advertisement .this reduce selling cost.

ADVANTAGE OF MONOPOLY

Monopoly leads to unequal distribution of income.

It leads restriction in output. By limitation output, one can charge a high price and make more profits.

He limits output:By preventing new firm from entering into industry

and this limitation results in high priceBy destroying a portion of article already

produced.By keeping productive resources partly idle.

DISADVANTAGES OF MONOPOLY

Definition.Features of oligopoly.Types Of Oligopoly.Classification of Oligopoly Market.Price and Output Determination in Oligopolistic

Market.The Kinked Demand Curve.Oligopoly and its Efficiency.Advantages and Disadvantages.Comparison b/w Monopoly and Oligopoly.

OLIGOPOLY

Oligopoly is a market structure featuring a small number of sellers that together account for a large fraction of market sales.

Oligopoly is derived from the Greek work “olig” meaning “few” or “a small number.”

An oligopoly is a market structure characterized by:

Few firmsEither standardized or differentiated

productsDifficult entry

Oligopoly

Oligopoly is :

‘Competition among the few.’ OR‘Few sellers DOMINATE the market.’

Features of oligopoly•Fewness of sellers

•Seller interdependence

•Feasibility of coordinated action among ostensibly independent firms

•Price rigidity

Types of Oligopoly

On nature of product sold, oligopoly is of two types:

Homogeneous Oligopoly such as industries producing steel, aluminium,etc.

Heterogeneous Oligopoly or Differentiated Oligopolysuch as industries manufacturing automobiles,tv sets,computers,etc.

Classifications Of Oligopoly

Open and Closed Oligopoly

Partial and Full Oligopoly

Perfect and imperfect Oligopoly

Syndicated and Organised Oligopoly

Collusive and Non-Collusive

Oligopoly

Price-Output Determination in Oligopolistic Market Structures

We have good models of price-output determination for the

structural cases of pure competition and pure

monopoly. Oligopoly is more problematic, and a wide range

of outcomes is possible.

There are few important assumptions providing a determinate solution to the price and output problem of Oligopoly are:

Some economists have assumed that oligopolists firms ignore interdependence which however helps in finding the equilibrium price and output of a particular oligopolist firm.

Second assumption is that oligopolist is able to predict the reaction pattern of the rivals.

Third assumption is that oligopoly firms realising their interdependence will pursue their common interest and will enter into the aggrement and work .

Howsoever, still we find that fixing of price under oligopoly market situation is very difficult and involves a no. of assumptions regarding behaviour of oligopoly group & reactions of rival firms to price and output changes.

Many oligopolistic industries exhibit price rigidity or stability . Price rigidity may be due to following reasons:

(a): The oligopolistic industry has reached in a stage of

maturity.

(b): Firms might have learnt by experience that price war is harmful & firms have found satisfactory price level.

(c): Firms have realised that they cannot increase their profit by lowering the price otherwise other firms will follow the price cut by the firm.

(d): A firm may compete by non-price competition rather than reducing the price.

KINKED DEMAND CURVE

The Kinked Demand Curve

quantity

$

D

P*

Q*

It has been observed that in many oligopolistic industries prices remain sticky or inflexible for a long time . The most popular explanations for this behaviour is given by an American economist Sweezy called “Kinked Demand Curve Hypothesis”.

The kinked demand curve has following features:

The upper portion of demand curve is elastic.

The lower portion of demand curve is inelastic.

If the firm raises its price above P, it faces an elastic demand curve, payoff low

If the firm lowers its price below P, it faces an inelastic demand curve, payoff low

Kinked Demand Curve

Different firms can have different MCs. As long as they fall with in the discontinuous MR, P will remain stable.

Output Effect < Price Effect for price movements with the discontinuous MR curve.

If MC increases enough, all firms raise their prices and the kink vanishes.

Kinked Demand Curve

The question whether oligopoly affects economic welfare depends on whether or not they exercise market power over prices and production

In competition, the level of output produced is where P=MC or MB=MC. Hence, net benefits to society are maximized. Market prices as low as possible and respond to changes in market forces. This allows prices to help direct resource allocation.

Oligopoly and Efficiency

Large firms with strong hold over the market are able to make huge profits.

Companies are capable of deciding prices as their own choice.

Dominant market players are able to make long-term profits.(As market don’t allow old business to increase their shares.)

High profits generated by companies can be used for innovation & development of products.

Helps in lowering average cost of production of goods.

Stable prices in market helps customers to plan and stabilize their expenditure.

Advantages of Oligopoly:

There is only one dominating company,hence customers have no other choice.

Small business fail to establish themselves as a brand.

With presence of little competition ,dominant companies may not think of improving their products.

New firms can’t enter the market easily.Firms cannot take independent decisions.The micro-economic goal of fair wealth is not

fulfilled as maximum profit is made by major players only.

Disadvantages of Oligopoly:

Monopoly Oligopoly

Meaning: One seller dominates the A small no .of sellers

entire market. dominate the industry.

Prices : High prices may be Moderate/fair

charged. pricing.

Barriers A monopoly usually exist Barriers to entry are very

entry : when barriers to entry are high because of economies

high. of scale.

Sources of Market making ability by Market making ability because

Power : virtue of being only viable of very few firms in the industry.

seller in the industry.

Examples: Microsoft(OS),Google Health insurers,wireless carriers,beer,

(web search),DeBeers, etc. media(TV,book publishing,movies)etc.

Difference between Oligoply and Monopoly

Difference between Oligoply and Monopoly on Output basis:In monopoly, the level

of output produced is where P>MC or MB>MC. Hence, net benefits to society are NOT maximized.

Market prices are higher and respond to changes in market forces. This allows prices to help direct resource allocation.

In oligopoly, the level of output is somewhere between the competitive and the monopolistic outcome. As the oligopolist produces closer to the competitive solution, the net benefits to society move closer to being maximized.

Duopoly

Definition.Duopoly exists when.Best Response function.Types of duopoly.

Cournot Model.Stackelberg Model.

Advantages.Disadvantages.Assumption.

DuopolyDefinition.Definition.Duopoly exists when.Best Response function.Types of duopoly.

Cournot Model.Stackelberg Model.

Advantages.Disadvantages.Assumption.

An oligopoly with two firms.

OR

Control of a commodity or service in a given market by only two producers or suppliers.

DEFINITION

No firm can gain by unilaterally changing its own output to improve its profit.

A point where the two firm’s best-response functions intersect.

DUOPOLY EXIST WHEN:

BEST RESPONSE FUNCTION

IN A DUOPOLYFirm 1’s best-response function is

Similarly, Firm 2’s best-response function is (c2 is firm 2’s MC)

21

211 2

1

2Q

b

caQrQ

12

122 2

1

2Q

b

caQrQ

TYPES OF DUOPOLY

Cournot modelStackelberg

model

COURNOT MODEL

Features of the Cournot Model:

1. Each firm chooses a quantity of output instead of a price.

2. In choosing an output, each firm takes its rival’s output as given.

Finding a Cournot best-response function

The First firm’s best response function is:

y1*=30 – y2/2

The Second firm’s best response function is:y2

*=30 – y1/2 Taken together, these two best response

functions can be used to find the equilibrium strategy combination for Cournot’s model.

The Cournot equilibrium

The Cournot Model: Key Assumptions

The profit of one firm decreases as the output of the other firm increases (other things equal).

The Nash equilibrium output for each firm is positive.

Isoprofit CurvesAll strategy combinations that give the first

firm the chosen level of profits is known as an indifference curve or iosprofit curve.

Profits are constant along the isoprofit curve.

Isoprofit or Indifference curve

From Figure 16.4y1* maximizes profits for the first firm given the

second firm’s output of y2*.

Any strategy combinations below the indifference curve gives the first firm more profit than the Nash equilibrium.

The result above relates to the key assumption that the first firm’s profit increases as the second firm’s output decreases.

Joint profit not maximized in Nash equilibrium

STACKELBERG MODEL

Stackelberg Equilibrium

Q1

Q1M

r1

Q2C

Q1C

r2

Q2

Q1S

Q2S

Stackelberg Equilibrium

Note: Firm 1 is producing on Frim 2’s reaction function (maximizes its profits given the reaction of Firm 2)

Cournot equilibrium

124

Stackelberg SummaryLeader produces more than the Cournot

equilibrium output.Larger market share, higher profits.First-mover advantage.

Follower produces less than the Cournot equilibrium output.Smaller market share, lower profits.

Large firms having strong hold over the market are able to make huge profits as there are few players in the market.

Prevents new players from entering the market through several barriers of entry. Dominant market players usually make long-term profits in an oligopolistic environment.

High profits generated by the companies can be used for innovation and development of new products and processes.

Close competition between two firms.

Advantages of Duopoly

Setting of prices may be advantageous for the firms, but if done unrealistically, it may prove to be a great disadvantage for consumers.

Creative ideas or plans of small businesses in the oligopolistic market fail to realize because they cannot overcome the control of major market players.

With the presence of little competition, dominant companies may not think of improving their products.

Disadvantages of Duopoly

Two firms are producing and selling Homogeneous product.

The firms operate at zero cost of production.Each firm has a aim of profit maximization.Market demand is equally divided in the two

firms.Each firm demand curve is linear.Each firm can not supply to entire market.

ASSUMPTIONS

ANY QUESTIONS