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In: Operations Management

MONOPOLY Firms clearly want to have a monopoly, or as much monopoly power as possible.  (By...

MONOPOLY

Firms clearly want to have a monopoly, or as much monopoly power as possible.  (By Monopoly power I'm referring to the ability to control their price).  After all, perfectly competitive firms can expect zero economic profit in the long run.
Over the years, various products have been "given away" or "integrated" into other products as a way of using "predatory pricing" to keep competitors out of the market. 
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Expert Solution

Predatory pricing involves charging very low prices, the target is to get rid of competitors so that the supplier can charge considerably higher prices later. The predator is willing to sell at a loss – below cost – for a period, in the hope that its rivals either go bust or decide stop selling that product. The competing companies having left the market, the predator pushes prices back up.

Predatory pricing, if successful, can help the predator establish or re-establish a monopoly. Dumping is an act of exporting goods at a lower price than at home or lower than the cost of production. It is also a type of predatory pricing.

It is a method used to deal with new companies that enter a market. If a monopoly is enjoying above normal profits, it is bound to attract new players into the scene.

If the predator’s competitors survive its predatory pricing strategy, the authorities in most countries will not intervene, because lower prices means more choice and a competitive market is good for consumers. They will only intervene if the competitors are killed off and the predator becomes a monopoly.

In response to a new company trying to break into the market, the incumbent monopoly player can slash its prices and make a temporary loss. If it is a monopoly that has enjoyed huge profits for a long time, it is likely to have plenty of reserves to fund a price war.

Faced with an unprofitable price, the newcomer may be forced to leave the market.

In the advanced economies, there are some legal restrictions with regards to predatory pricing. Depending on the circumstances and the country where the price war takes place, the predator could be deemed anti-competitive.

In United States, the predator could be subject to antitrust claims of manipulating the market to become a monopoly. Suppliers with substantial or dominant market shares are more likely to have the finger pointed at them.

However, US law is on the side of the consumer, and price wars are good for shoppers. So, the US Supreme Court has set high hurdles to antitrust claims based on predatory pricing.

The plaintiff has to show to the court that the predator’s practices will not only affect competitors but also the market as a whole – that healthy competition is under threat.

In case of a chance that the market newcomers will prevent the predator from recovering its investment through ultra-competitive pricing, the antitrust claim will most probably fail.

Sources: Market Business News Glossary and Investopedia.


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