Theory of Product Pricing

Profit maximisation and equilibrium of a firm

- TR-TC approach (table and diagram)

- MR-MC approach (table and diagram)

Equilibrium price and output determination under perfect competition

- Meaning and characteristics
- Derivation of short run supply curve of a firm

- Short run equilibrium (firm and industry)

- Long run equilibrium (firm and industry)

Equilibrium price and output determination under monopoly

- Meaning and characteristics

- Short run equilibrium

- Long run equilibrium

- Meaning and conditions of price discrimination

- Degrees of price discrimination

- Equilibrium of firm under third degree discrimination

Equilibrium price and output determination under monopolistic competition

- Meaning and characteristics

- Short run equilibrium

- Long run equilibrium of a firm Oligopoly

- Meaning and characteristics Computations and Numerical assignments

Notes

Monopoly: Meaning and Characteristics

Monopoly refers to a market where there is only one seller of a particular good or service. The seller, being the sole seller, has full control over the supply of the commodity. Economies of scale, capital requirements, technological superiority, no substitute goods, network externalities, legal barriers, deliberate actions and control of natural resources are some of the major sources of monopoly power. The features of monopoly include price maker, one seller and many buyers, imperfect knowledge about market, no close substitutes and barriers to entry of new firms.

Equilibrium Price and Output Determination in Monopoly

In short run, market supply cannot be adjusted according to the change in the market demand. The monopolist has to make two decisions: setting the price and his output. In short run, due to the availability of sufficient time, market supply can be adjusted according to change in market demand. In addition, the firm will function at a point on the long- run average cost curve at which the short-run average cost is tangent to it.

Equilibrium Price and Output Determination under Discriminating Monopoly

Price discrimination refers to a situation when a producer sells the same product to different buyers at different prices for reasons not associated with differences in costs. It is mainly adopted to achieve three goals: i) Profit / sales maximization ii) to promote public welfare iii) to provide incentive to least developed economic sector. There are three degrees of price discrimination as first degree price discrimination or perfect price discrimination, second degree price discrimination and third degree price discrimination. The technical feasibility of first-degree price discrimination would be limited because the monopolist usually does not possess a perfect knowledge of the demand of the consumers.

Oligopoly

It is a situation in which a particular market is controlled by a small group of firms. An oligopoly is much like a monopoly, in which only one company exerts control over most of a market. No firm can fail to take into account the reaction of other firms to its price and output policies. There is, therefore, a good deal of interdependencies of the firm under oligopoly. The firms under oligopoly are interdependent as they are in a group. Under oligopoly, there is the existence price rigidity. The pricing and output policy of an individual seller in the market can influence the industry price and output.

Profit maximization and Equilibrium of a Firm

Profit is the difference between total revenue and total cost of the business. Π denotes the profit in the economics. Mathematically, Π = TR -TC. The  maximum profit of the firm can be easily seen graphically in two ways: Total cost - Total revenue approach: A firm is in equilibrium when it is earning maximum profit. Simply, if the difference between total revenue and total costs is maximum when the output is produced. This state is said to be the firm is in equilibrium maximizing profit. Marginal cost - Marginal revenue approach: The first condition for the equilibrium of the firm is that marginal cost is equal to marginal revenue (i.e. MR = MC). The second condition for equilibrium requires that the MC is rising at the point of its intersection with the MR curve.

Price and Output under Second and Third Degree Discrimination

In second degree of price discrimination, the monopolist charges different prices for different consumers and different prices for different units of the same product, but not the maximum possible price that the consumers could pay for it. The simple form of third degree kind of price discrimination is that when the monopolist sells his output, already produced, in two separate markets. When he sells his output only in the two markets, he can adjust the amount in each market in such a way that the marginal revenue derived from the first market becomes equal to the marginal revenue derived from the second market.

Equilibrium price and output determination under perfect competition

Under perfect competition, the firm should determine the level of output because it takes its price from the industry. The single firm under perfect competition is regarded as price taker. The fact that a firm is in equilibrium does not necessarily mean that it makes excess profit. Whether the firm makes excess profit or losses depends on the efficiency of the firm and the level of average cost at the short run equilibrium. The super normal profit obtained in the short run by the firm turns as an inducement to enter the market for new firms, which increases or raises industry supply and until only normal profit is made, market price falls for all firms.

Equilibrium Price and Output Determination under Monopolistic Competition

In short run, market supply cannot be adjusted according to the change in the market demand. The monopolist has to make two decisions: setting the price and his output. In short run, due to the availability of sufficient time, market supply can be adjusted according to change in market demand. In addition, the firm will function at a point on the long- run average cost curve at which the short-run average cost is tangent to it.