Economics Oligopoly Questions Medium
Limit pricing in oligopoly refers to a strategic pricing strategy employed by dominant firms in an industry to deter potential entrants from entering the market. It involves setting the price at a level that is low enough to make it unprofitable for new firms to enter and compete, while still allowing the dominant firm to maintain its market share and profitability.
The objective of limit pricing is to create a barrier to entry by signaling to potential entrants that they would face intense competition and low profits if they were to enter the market. By setting a low price, the dominant firm aims to discourage new entrants from investing in the industry, as they would not be able to cover their costs and earn a reasonable return on their investment.
Limit pricing can be achieved through various strategies. One common approach is to set the price just above the dominant firm's marginal cost, which makes it difficult for new entrants to compete on price. Additionally, the dominant firm may engage in predatory pricing, where it temporarily lowers prices to drive out existing competitors or deter potential entrants.
While limit pricing can be an effective strategy for maintaining market power in an oligopoly, it is subject to certain limitations. For instance, if potential entrants perceive that the dominant firm's pricing strategy is unsustainable in the long run, they may still enter the market. Moreover, limit pricing may attract regulatory scrutiny if it is deemed anti-competitive or predatory in nature.
In conclusion, limit pricing in oligopoly refers to the strategic practice of setting prices low enough to discourage potential entrants from entering the market. It is aimed at maintaining the dominant firm's market share and profitability by creating barriers to entry.