key term - Predatory Pricing

Definition

Predatory pricing is a pricing strategy where a dominant firm sets prices artificially low to drive out competition and establish a monopoly. It involves a firm temporarily accepting lower profits or even losses to eliminate rivals and then raising prices once the competition is eliminated.

5 Must Know Facts For Your Next Test

1. Predatory pricing is considered an anticompetitive practice and is often prohibited by antitrust laws.
2. Predatory pricing is a tactic used by dominant firms to maintain or increase their market power by driving out smaller competitors.
3. Firms engaging in predatory pricing may temporarily accept lower profits or even losses to force rivals out of the market.
4. Once the competition is eliminated, the predatory firm can then raise prices and exploit consumers by charging higher prices.
5. Predatory pricing is a common tactic in oligopolistic markets, where a few large firms dominate the industry.

Review Questions

• Explain how predatory pricing can be used as a barrier to entry in a market.
  • Predatory pricing can act as a significant barrier to entry in a market. By temporarily lowering prices below the cost of production, a dominant firm can drive out smaller competitors and deter new firms from entering the market. This allows the predatory firm to maintain its market power and charge higher prices once the competition has been eliminated. The high costs of weathering the predatory pricing campaign make it difficult for new firms to enter and challenge the dominant player, effectively preserving the monopoly or oligopoly.
• Describe the relationship between predatory pricing and oligopolistic market structures.
  • Predatory pricing is often associated with oligopolistic market structures, where a few large firms dominate the industry. In an oligopoly, the pricing decisions of one firm can have a significant impact on the others, leading to interdependent behavior. Predatory pricing allows a dominant firm in an oligopoly to undercut its rivals and force them out of the market, ultimately consolidating its market power. Once the competition is eliminated, the predatory firm can then raise prices and exploit consumers, further entrenching the oligopolistic structure of the industry.
• Analyze how government regulations can be used to address the anticompetitive effects of predatory pricing.
  • Governments often enact antitrust laws and regulations to address the anticompetitive effects of predatory pricing. These policies aim to promote fair competition and protect consumers from the negative consequences of monopolistic or oligopolistic market structures. Regulators may investigate instances of suspected predatory pricing, and if found guilty, impose fines, require the firm to cease the predatory behavior, or even break up the dominant firm to restore competition. Additionally, governments can implement policies that lower barriers to entry, such as reducing regulatory burdens or providing incentives for new firms to enter the market, to counteract the exclusionary effects of predatory pricing.

Related terms

Monopoly:

A market structure in which a single seller controls the entire supply of a good or service, allowing the monopolist to set prices and exclude competition.

Barriers to Entry:

Factors that make it difficult for new firms to enter a market and compete with existing firms, such as economies of scale, high start-up costs, or government regulations.

Oligopoly:

A market structure in which a few large firms dominate the industry, and their actions and pricing decisions are interdependent.