Predicting firms; behavior and reactions to events is central for current microeconomics. Economists have put forward many theories to analyze the behavior of firms, main decisions of economic interest related to outputs, investment, and technology and above all prices which are the object of this essay. Price can be defined as "the value of the goods, or the money that must be paid to acquire a good or service" or, more economically by the average revenue, which corresponds to the total revenue / total output. Generally, it corresponds to the intersection point of the demand and the supply curves. The aim of this essay is to analyze and critically discuss the main factors that determine product prices in the UK. I shall argue that the prices depend on the firms' objectives and market structure but more importantly on costs and the firms' strategies.
[...] Mark-up theories of pricing are particularly widespread in Post-Keynesian economics. Thus, according to Michal Kalecki the main factors which determine prices are average prime costs and prices of other firms in the same industry: Price = mU + nP (where U is the Unit prime cost, P the weighted average of all firms' prices and m and n positive coefficients). The problem of mark-up pricing is that an array of price is possible for a firm depending on the practices it adopts and the manner it estimates its costs. [...]
[...] Though the importance of costs, in determining prices cannot be denied, it is also true that strategic reasons are crucial. In practice there are indeed a number of factors other than costs which influence firms' pricing strategy. The first is probably the strategy concerning market share. Prices may be reduced to raise or to defend market share. There are some evidences of that: on large firms (Jobber and Hooler or by the office of foreign trade (OFT)). There is also evidence that firms, notably in the UK retail petrol, have often followed a pattern of parallel pricing, i.e. [...]
[...] The rule in profit maximisation firm is that marginal revenue equal marginal cost (MC). Where e is the elasticity of demand, the price = MC. This implies that prices will be higher in monopoly than in perfect competitive markets. Market structure may indeed influence firms' pricing. Since markets closer to monopoly than perfect competition have more market power, prices may be higher. (Diagram 1). As it can be seen on the diagram, under perfect competition, price is determined by the intersection of demand and supply: PC. [...]
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