Main factors that determine business prices decisions

"Whoever has bought or sold something knows that in reality prices are established by customers and sellers and this it costs time and money to analyze the right price of any product, or to workout how prices should react to a change in the market" (Hall et al. 1997, p. 7). Price-setting decisions may seem rather simple for small bargaining trades including two or few functions. However, lots of influencing factors can lead to the perseverance of any price. These factors are more relevant and perhaps more easily observable on a larger, business range, where there are a lot more parties involved and usually more products to price. . The aim of this article is to go over the key factors which determine costs decisions in businesses, and assess the relative importance of these factors.

Firstly, it pays to to format why price setting is important. There are several different reasons. Around the macroeconomic opportunity, price setting is important because it determines the consequences of monetary insurance policy decisions (regarding money, inflation and interest levels) on the market (Hall et al. 1997). This is because of price rigidities (or 'sticky' prices), which occur therefore of some of the factors determining business costing decisions which is mentioned. With price rigidities, monetary insurance plan has real results on the macroeconomy, at least in the short- to medium-term. Also, nominal changes in prices can have effects on real result and career in the short-term (Hall et al. 1997). Over the microeconomic scope, price setting behaviour is of critical importance for businesses to meet their goals. These objectives may differ depending on individual firm's strategy, but tend towards long-run profit maximisation - therefore business pricing decisions are also important for businesses to maximise gains. And changes in prices affect profitability by a larger proportion than another variable which a company can change straight (BusinessWeek 2006).

So how do firms actually determine what prices to demand because of their products? This may largely rely upon the market composition where the organization is functioning. Perfect competition is a theoretical market structure in which there's a very large volume of buyers and sellers, who produce a homogeneous product and count up with perfect information and perfect factor mobility. Given these situations, each individual company serves as a price-taker, without price-setting ability. Therefore, under perfect competition, business pricing decisions do not can be found, and prices are arranged by the industry pushes of source and demand. The nearest real examples of perfect competition industries are certain agricultural companies, where suppliers, or farmers, haven't any say over the price tag on their product. Moving towards imperfect market constructions, monopolistic competition is a structure in which there is also a large quantity of buyers and sellers, but they create a differentiated product, nor rely with perfect information or perfect factor flexibility. Further down the imperfect competition road is oligopoly, an industry composition characterised by a little number of retailers and high market awareness (or high market electricity). Finally you can find monopoly, a structure with one seller and multiple buyers, so that the individual company dominates the market entirely and it is the only real price-setter. Economic theory points out that a monopolist produce a quantity where marginal earnings, MR, equals marginal cost, MC (the profit-maximising condition), and will charge a price where the demand curve matches this variety, as illustrated below

Figure 1 - Monopoly price-setting:

Monopolistic competition and oligopoly price environment are generally predicted to fall somewhere between the perfect competition and the monopoly final results. That is, businesses in monopolistic competition and oligopoly have some, but not absolute, price-setting power. You will see factors affecting rates decisions that happen to be beyond your firm's control, at least during setting up or changing prices. Then there will be certain internal factors including the firm's cost framework, and there will be the firm's rates strategy, which is basically a means of responding to the previously mentioned factors. First why don't we go through the firm's exterior factors. This consists of, of course, the market structure where the firm manages, and there can be important dissimilarities even within the same theoretical structure. For instance, some oligopolies can behave as a monopoly while others can have the same result as perfect competition. Focusing on imperfect competition, a primary external factor impacting on business rates decisions is, broadly, your competition. This can be divided into several important factors: the availability of substitutes and level of product differentiation, cross-price elasticity of demand, market stocks, and undoubtedly the rivals' prices. The option of substitutes is important because a high availability means that if a company raises its prices, its customers can more easily transition to a rival product. That is partly dependant on the amount of product differentiation which is captured by the cross-price elasticity of demand. Competitors' prices need to be considered, as customers will make price comparisons on the market. High product differentiation gives firms more power to demand price mark-ups above the cost of production, thereby making a supernormal earnings (Tucker 2008).

Another exterior factor is the regulatory framework and any possible government interventions in the price-setting behavior, such as price ceilings and subsidies. They are artificially imposed factors and, where present, can be of high relative importance because they feature direct bonuses or barriers for a firm to undertake certain rates decisions. For example, a subsidy may allow a firm to fee lower prices where it would be usually impossible without incurring a damage. An example is the common development of biofuel from corn in the US (FT 2007). And a price ceiling makes it impossible for a company to charge a price above a certain government-imposed level. Typically, price-ceilings have been enforced on basic requirement products and especially those where the seller would in any other case have a higher talk about of bargaining vitality - such as personal rent.

Moreover, characteristics related to the customer-base of the business enterprise are an important exterior factor. The income level of customers will partly determine the demand curve encountered by the maker, which is central to determining prices and is thus of high importance in accordance with other factors. Certain psychological features are also taken into account, such as customers' perceptions of prices. For instance, many businesses may charge a cost of 9. 99 alternatively than 10. 00, because, although the true difference is minimal, customers may understand a large difference between one integer and the next (Teacher2u 2010). However, since this type of factor only establishes such a minor difference in actual prices, it is of very low importance relative to other factors.

The main inner factor affecting business pricing decisions is the firm's cost framework. Given the income motive, the organization will seek to go beyond its costs to produce a profit, and costing is central to reaching this goal. Inside the long-run, firms are required to produce on the profit-maximising condition where MC=MR, so the condition of the marginal cost curve will be very important to the costs decisions. If a firm is experiencing economies of size, it might be able to benefit from lowering prices to achieve an increased market show and exploit the common cost reductions. Hall et al. (1997) make a distinction between two important cost-related factors for business rates decisions: immediate cost plus changing mark-up and direct cost plus set mark-up. This simply identifies how some companies specify a set, or target, percentage mark-up over costs.

Overall, the analysis by Hall et al. (1997) finds, from a review of 659 UK businesses, that market conditions (an exterior factor) were the most crucial factor in price-setting behavior, with 40 percent of companies establishing prices at the "highest level that the marketplace could keep" (p. 12). Within market conditions, the main is how the own firm's prices (or potential prices) compares to competition' prices. This is especially true for retailing and production companies and companies in more concentrated markets. Internal, or company-specific, factors, were also found to be very important. 20 percent of respondents mentioned that prices were determined by direct costs and also a varying mark-up and 17 percent said they were determined with a fixed mark-up. In any case, cost is of course an essential factor for price-setting behaviour. The cost/mark-up rule applies more strongly to small companies, presumably because they cannot afford such considerable market research to obtain information on exterior factors. Finally, external factors related to customers were the least important as reported by respondents.

Given these immediate factors, a firm can make pretty much use of each one and can determine its price in another way as a reply to these factors, with respect to the firm's prices strategy. One costs strategy category is differential pricing, based on consumer heterogeneity in three areas: transfer costs (providing rise to special discounts on second markets), demand which incentivises the use of periodic discounting, and search costs, which incentivise random discounting (Tellis 1986). In other words, the firm can use a technique of price discrimination, which contains charging different prices for the same product under different circumstances or even to different customers.

Another kind of price-setting strategy category is competitive rates, which includes a number of costing strategies aimed at improving a firm's competitive position. Penetration rates is the strategy of charging below-market prices to attract a larger market share and thus exploit economies of size. That is related to both cost and market factors. Predatory costing is a technique of charging low prices with the purpose of establishing and/or retaining barriers to entrance and growth, to then down the road increase prices again. Geographic costs, another form of competitive costing, is a technique between second market discounting and predatory costing (Tellis 1986).

Furthermore, you have the category of product line costing strategies, which are based on taking account of the set (or range) of products when coming up with pricing decisions. One strategy is price bundling, where the firm faces heterogeneous demand for perishable products which are non-substitutes. The company may have an incentive to charge the highest price which some consumers are prepared to pay for each product, which means overall the merchandise line could be more expensive. Firms may use a premium prices strategy when they face heterogeneous demand for replacement products which have joint economies of size. A typical example is whenever a firm can create a superior version of something but still encounters demand at a lesser price for the substandard version. The organization would charge a premium on its superior version, even if the costs of production are the same, in order to "subsidise" the lower-priced sales of the substandard version. This plan may often mean that "relative to its costs, the company takes a high quality on its higher priced version and a reduction on its more affordable version" (Tellis 1986, p. 155). Other products rates strategies include image costing, where the organization launches an identical product under a different name and at an increased price to indicate quality, and complementary costs.

The existence of different pricing plans or strategies shows that business rates decisions can be affected pretty much heavily by the various influencing factors mentioned. These include external factors, such as market structure and consumer willingness to pay, and internal or firm-specific factors, such as the firm's cost composition and the pricing strategy. The different types of pricing strategy show how different companies may respond in several ways to the same factors. This implies it is difficult to objectively determine the relative importance of each factor as it may differ from organization to firm. However, there is certainly empirical evidence to support that the most important factor are the market conditions where the firm operates, an external factor, accompanied by the firm's cost plus mark-up structure, an internal factor. Other factors, such as customer willingness to pay and regulatory composition are also considered, but normally aren't as important to firms in their charges decisions. Still, it is worth due to the fact certain extreme regulatory constructions such as price ceilings and heavy subsidies (or fees) would be very important factors, either immediately or indirectly through effect in the firm's cost composition and/or market structure.

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