Entry prevention in imperfectly contestable industrial markets has been topic of extensive interest among academics. This paper seeks to explain effects of entry barriers on incumbent firms’ pricing decisions. Underlying economic theory is critically assessed, evaluating credibility of strategic pricing behavior models in the context of real-life business environment.
Table of Contents
1. Introduction
2. Barriers to Entry
2.1 Structural Barriers to Entry
2.2. Strategic Barriers to Entry
2.2.1. Limit pricing
2.2.2. Predatory Pricing
2.2.3. Excess Capacity
3. Conclusion
Research Objectives and Key Topics
This paper aims to analyze the impact of various entry barriers on the pricing strategies of incumbent firms. By evaluating underlying economic theories and game-theoretic models, the research assesses the credibility and effectiveness of strategic pricing behaviors in real-world market environments.
- Differentiation between structural and strategic entry barriers
- Mechanisms of limit pricing as a deterrent for potential entrants
- Economic implications of predatory pricing and the "deep pocket" concept
- The role of excess capacity as a credible strategic asset
- Theoretical limitations and the Chain-Store Paradox
Excerpt from the Book
2.2.1. Limit pricing
Possibly, the most classical example of strategic deterrence is the limit pricing model. Essentially, the strategy implies that the incumbent sets the price of output so low that it discourages potential entrants from contesting the market by sending credible signals about the monopolist’s production cost. This part of the paper combines and utilizes game theoretical models introduced by Rickard (Rickard, 2006, p.342) and Besanko (Besanko, 2004, p.310-321) to explain price effects of limit pricing on incumbent firms.
The model assumes that the market consist of a dominant monopolist and a potential entrant. It also assumes that only the monopolist has the technological capacity and know-how to operate on the market. Demand function of both firms is given by: P = 100 - Q, also Q = P - 100, where P denotes price of output and Q - demanded quantity. Output prices and demand functions are chosen randomly in accordance with basic economic principles regarding nature of competition and pricing.
Summary of Chapters
1. Introduction: Defines market entry and highlights the critical distinction between different types of entrants while establishing the assumption of a monopoly market structure.
2. Barriers to Entry: Categorizes factors that allow incumbents to maintain positive economic profits by discouraging new competitors from entering the industry.
2.1 Structural Barriers to Entry: Discusses inherent advantages such as control of resources, economies of scale, and sunk cost investments that naturally impede new competition.
2.2. Strategic Barriers to Entry: Examines deliberate corporate actions aimed at long-term profit maximization through the active deterrence of potential rivals.
2.2.1. Limit pricing: Analyzes the model where an incumbent slashes prices to signal low costs and deter entry, using game theory to demonstrate the equilibrium outcomes.
2.2.2. Predatory Pricing: Explores strategies involving unprofitable pricing aimed at forcing a rival's exit, including concepts like the "deep pocket" and reputation signaling.
2.2.3. Excess Capacity: Investigates how maintaining surplus production capacity serves as a significant and credible barrier to entry by threatening price competition.
3. Conclusion: Summarizes the findings, noting that entry barriers serve to both deter new competitors and influence the pricing behavior of the incumbent.
Keywords
Entry barriers, Monopoly, Incumbent firms, Pricing strategy, Structural barriers, Strategic barriers, Limit pricing, Predatory pricing, Excess capacity, Game theory, Market contestability, Profit maximization, Competition, Chain-Store Paradox, Economic theory.
Frequently Asked Questions
What is the primary focus of this research paper?
The paper examines how various entry barriers affect the pricing decisions of incumbent firms and critically assesses the underlying economic theories that explain these strategic behaviors.
What are the central themes discussed in the work?
The central themes include the distinction between structural and strategic barriers, the mechanics of limit and predatory pricing, and the role of excess capacity in market defense.
What is the main research objective?
The goal is to evaluate the credibility of strategic pricing models within a real-life business context, specifically focusing on whether these strategies are rational or effective.
Which methodology is employed in the analysis?
The author utilizes game-theoretic models and reviews existing empirical studies to construct and simulate competition scenarios between a dominant firm and a potential entrant.
What topics are covered in the main section?
The main section details the definitions and impacts of structural entry barriers (like resources and economies of scale) and strategic barriers (like limit pricing, predatory pricing, and excess capacity).
How would you characterize this paper with keywords?
The paper is characterized by terms such as market contestability, strategic entry deterrence, monopoly pricing, and game-theoretic signaling.
How does the Chain-Store Paradox challenge traditional pricing theories?
The Chain-Store Paradox suggests that if entrants are perfectly rational and can predict an incumbent's future behavior across multiple markets, predatory pricing strategies become ineffective and irrational.
Why might limit pricing be considered irrational for an incumbent?
It can be considered irrational because, as the model demonstrates, further price cuts beyond a certain point are not profitable for the incumbent, and competitive pricing often becomes a more feasible long-term strategy.
- Arbeit zitieren
- Dimitar Vasilev (Autor:in), 2011, Effect of Entry Barriers on Prices Charged by Incumbent Firms. Strengths and Weaknesses of Underlying Economic Theory, München, GRIN Verlag, https://www.hausarbeiten.de/document/180767
