Pricing Strategy: Market structure

Pricing Strategy: Market structure

There are many complex forces that could affect a market but the one I will like to focus on in this blog is the market structure and how it affects you as a producer.

In economics, a market structure describes the varying level of competition i.e. how much power each firm in an industry has. There are many forms a market structure can take but the most common are:

  • Too much competition aka perfect competition:  This market structure barely exists in real life. In perfect competition everybody in the market sells exactly the same type of product. In other words in a market for pens, everybody sells a blue pen with exactly the same design. So as a producer in a perfect competition, you possess no power and are at the mercy of the market. If you try and set your price above what everyone else is selling, no one will buy from you. And if you set your price below what everyone is selling you will make a loss and eventually go out of business.
  • No competition aka as monopoly: This market structure is not very common but does exist. In this market structure you are the only one who produces your product in your market. No one else produces a close substitute. Normally this structure exists because someone has a very advanced technology which only they can use because of a patent or because it is more efficient for one company to produce that product because of the high cost of having more than one company doing it. An example of where it is efficient for only one company to produce a product will be electricity. CWLP has a monopoly on producing electricity for Springfield residence. If someone else should come in and try to compete it will be too expensive and not worth their time. Another example of a monopoly was Microsoft. For a long time Microsoft had virtually a monopoly in the software applications market.  They were able to charge ridiculous prices because customers did not have much choice. They were effective in keeping other software makers from effectively competing with them. Microsoft had a lot of power in the market. So they were able to set prices at levels that were very profitable for them.
  • Little competition aka oligopoly: In an oligopoly there are very few sellers selling the same product. Each seller has enough power to affect the price of the product. A very good example of this is the airline industry. Because of the expense one would have to incur in setting up an airline, not too many people start airline business. Each company or producer in the market has a lot of power which can lead to price war. A price war means that if I am American Airline charges $250 from Springfield to DC then United will immediately match the price of $250 and divert some of American’s customers to them. Because of price wars producers in an oligopoly hate to compete on price. So they focus on differentiating their products. American airlines say we will give u more leg room. Southwest says we will get you there on time cheaply.
  • Too much competition but variation in products aka monopolistic competition: The last market structure I will like to talk about is monopolistic competition. This market structure is the most common in real life. In a monopolistic competition, your power to affect the price of the product in your market depends on how well you can differentiate your product. Which is very different from monopoly where you have to focus on telling people they need your product? In a monopolistic competition, everybody in the market sells similar product but they are differentiated. For example, I can sell red pens and someone else sells blue pens. Or I sell snowman cookies and someone else sells sunshine cookies. Each difference appeals to different customer taste. If I am in a market where people prefer the sunshine, then probability is I can charge them more for my sunshine cookies. This concept is known as perceived value.  Perceived value is when I charge consumers a certain price for a product because of the value or sentiments they have attached to it. Perceived value is very different from actual value because where actual value focuses on how much it costs me to produce a certain product, perceived value focuses on how much will my consumers be willing to pay. In monopolistic competition, producers try to increase perceived value by adding sentiments, extra services or condiments to their product. For example Straw cereal, is a different concept. Use your straw to drink your milk and then eat your straw. You always have to think differently to succeed in this market. There are 2 ways you can compete in a market with many sellers:
    • Cost Leadership: That is you choose to compete based on price. Example Wal-Mart.
    • Differentiation: You think of very creative ways to make your product different.

So now that we know about market structures, how should that affect you?

  • Well for one it can affect the product you choose to sell.
  • You may choose to innovate a product people are willing to pay for but no one else produces. Here you have the most power because if it is a product people really want, they will pay what you are asking for it.
  • Or you may choose a product that only few other people produce but highly differentiate yours to drive consumers to you (oligopoly).
  • Or if you choose to compete with everyone else, be sure to develop a strategy to differentiate yourself or become the cost leader.

So now let us talk about how to set prices:

Setting prices:

How do you know how to set the price of your product?

Well, price setting has a lot to do with your market structure

  • Know your cost: Try not to set the price below your cost because u will eventually go out of business
  • Know the perceived value of your product: This information is based on how much power you have in the market as we discussed earlier.
  • Price your product based on perceived value but not below cost.

Ways you can increase value:

  • Branding: Make a catchy name that everybody will catch on to
  • Packaging: Using more attractive packaging for your product
  • Deals: Do a buy one get one free. Even though buyers will theoretically be paying the same for the product, no one wants to pass up a free deal
  • Offer coupons for next purchase: that way people are willing to come back to your store.

As a seller with a lot of competition you always have to think of creative way of increasing your market share.

Here are a couple of questions I will like to leave you with:

What kind of competitor are you in the market?

So what should you do differently to increase your power in the marketplace?


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