> Imagine a town with two widget merchants. Customers prefer cheaper widgets, so the merchants must compete to set the lowest price.
I always found this statement to be rather wishful. Individual lowering of prices makes sense if and only if your competitor is capable of saturating the market. Otherwise, demand elasticity becomes very relevant. Sure, your competitor may take the larger share of the market, but then you can compensate with higher per item profit.
The common wisdom is that in properly functional markets there's enough supply with n-1 market participants, therefore given a market signal of one participant lowering their prices the last one standing without lowering prices gets kicked out of the market, making maintaining prices the losing move. Yet, if the rest of the market does not react to the signal, the one lowering their prices hurts their profits and possibly kicks themselves out of the market. Making price maintenance, and depending on elasticity maybe even jacking of prices, the winning move in the presence of this signal.
Turns out the probability of either move being the winning move is dependent on probability of other market participants colluding/defecting. However, since lowering the prices hurts the profit a rational market participant would conclude that the rest of the market is inclined, even if a little bit, not to lower their prices in reaction given price cutting signal and similarly a bit more inclined to raise the prices given price hike signal.
I always found this statement to be rather wishful. Individual lowering of prices makes sense if and only if your competitor is capable of saturating the market. Otherwise, demand elasticity becomes very relevant. Sure, your competitor may take the larger share of the market, but then you can compensate with higher per item profit.
The common wisdom is that in properly functional markets there's enough supply with n-1 market participants, therefore given a market signal of one participant lowering their prices the last one standing without lowering prices gets kicked out of the market, making maintaining prices the losing move. Yet, if the rest of the market does not react to the signal, the one lowering their prices hurts their profits and possibly kicks themselves out of the market. Making price maintenance, and depending on elasticity maybe even jacking of prices, the winning move in the presence of this signal.
Turns out the probability of either move being the winning move is dependent on probability of other market participants colluding/defecting. However, since lowering the prices hurts the profit a rational market participant would conclude that the rest of the market is inclined, even if a little bit, not to lower their prices in reaction given price cutting signal and similarly a bit more inclined to raise the prices given price hike signal.