Page 73 - Azerbaijan State University of Economics

THE JOURNAL OF ECONOMIC SCIENCES: THEORY AND PRACTICE

Predatory pricing. Predatory pricing is the practice of a dominant firm

selling its products at prices so low as to drive competitors out of a market,
prevent new entry, and successfully monopolize the market. The cost can be

high, but a predator expects future discounted profits to outweigh present

losses and forgone profits. If the firm operates in more than one market,
selling its product in some markets at prices below costs may help sustain

high cartel prices in others, although supply might be diverted to the market
with higher prices.

Predation is condemned not because it results in lower prices now, but
because it is likely to lead to reduced output and higher prices in the future.

For this to occur other firms must be weak, there must be barriers to reentry

into the market so restoration of competition is not possible after existing
competitors have exited, and profits to be gained in the postpredation period

must outweigh all losses. These conditions are not normally present,

however, in a healthy market economy, and genuine instances of predatory
pricing are rare.

Some countries have ruled that prices may only be predatory if they are
set below marginal cost. Prices below average variable cost (and below

marginal cost), however, can be rationalized in times of distress. Since
marginal cost is difficult to calculate, the rule of thumb in antitrust

proceedings has been to approximate marginal cost by average variable cost,

which is easier (but by no means simple) to measure or estimate. One danger
in doing this arises with industries with excess capacity. For these, the

average variable cost may be much higher than the marginal cost, and a firm
may be accused of predatory pricing even if prices are roughly equal to

marginal costs. In any case, charging prices just below competitors' marginal
cost (limit pricing) may be exclusionary, but such pricing would not be

considered predatory if the firm’s price exceeds its marginal cost. Prices

72