Predatory pricing is a strategic pricing practice where a business deliberately sets the price of its merchandise or services at an exceptionally low level. The strategic intent behind this practice is to drive competitors of similar products or services out of the market. Once the competition has been eliminated, the predatory firm intends to raise prices to recoup losses sustained during the price war and monopolize the market to maximize profits.
Historical Context of Predatory Pricing
Historical instances of predatory pricing have shaped market regulations worldwide. The late 19th and early 20th centuries saw rampant use of predatory pricing by emerging industrial monopolies, prompting the establishment of antitrust regulations.
Example: Standard Oil
One prominent historical example is Standard Oil, which used predatory pricing to eliminate competition, eventually leading to its breakup in 1911 under antitrust laws.
Legal Framework and Antitrust Acts
Antitrust Acts
In response to predatory pricing practices, several legislative measures have been enacted globally:
- Sherman Antitrust Act (1890): A fundamental statute in U.S. antitrust law targeting monopolistic practices, including predatory pricing.
- Clayton Antitrust Act (1914): This act further strengthened laws against predatory pricing and other anti-competitive practices.
- Competition Act (1998) UK: Addresses anti-competitive behaviors in the UK, including predatory pricing strategies.
Identifying Predatory Pricing
Formula for Sustainable Pricing \(P_{s}\)
Predatory pricing occurs when the price \(P_{p}\) is set below \(P_{s}\) to unsustainable levels with the intention of eliminating competitors:
Types of Costs Considered
- Variable Costs: These change with production levels (e.g., raw materials).
- Fixed Costs: Remain constant regardless of production volume (e.g., rent, salaries).
Market Dynamics and Impacts
Short-term Impact
In the short term, consumers benefit from lower prices. Competitively weaker firms may exit the market, reducing supply diversity.
Long-term Impact
In the long-run, consumers may face higher prices and limited choices, as the dominant firm increases prices post-competition.
Comparisons to Related Terms
- Dumping: Predatory pricing on an international scale, where a firm sells a product in a foreign market at a price lower than its domestic market.
- Loss Leader Pricing: Offering a product at a loss to attract customers, but without the intent of driving competitors out.
FAQs
Is Predatory Pricing Legal?
How Can Companies Defend Against Predatory Pricing?
Can Consumers Benefit from Predatory Pricing?
References
- Federal Trade Commission. “The Antitrust Laws.” [https://www.ftc.gov/tips-advice/competition-guidance/guide-antitrust-laws/antitrust].
- OECD. “Predatory Pricing.” [https://www.oecd.org/competition/abuse/2375661.pdf].
Summary
Predatory pricing is a deliberate and strategic practice aimed at manipulating market dynamics by temporarily setting prices below sustainable levels to eliminate competition. While it may offer short-term consumer benefits, it often leads to long-term negative market impacts. Owing to its potential to harm competition, it is heavily regulated under antitrust laws globally. Understanding the intricacies and implications of predatory pricing is vital for businesses, regulators, and consumers alike to maintain healthy market environments.
