What factors determine product prices in the UK?

As an essential economic indicator, price plays its unique role in UK's economic system. Product price, as being put into sample term by Michael Parkin, price of a product "is the number of euros or pounds that we must give up to buy the good". (Parkin, P45) However, what factors determine product prices in the UK? As far as I am concerned there are two main determinates, market structure and firm objective. Market structures determine how competitive the market itself is, whereas firm objectives decide what their main intention in the business activities is.

Nevertheless, in real practice firms will also have to carry out different pricing strategies in order to survive among their rivals. Various pricing strategies will make product price varies in the market place. Let's look these in greater details. How competitive a market is decides what pricing behaviour the market will have. In general, market structures have been categorised into perfect competition and imperfect competition. Under perfect competition, two extremes exist. One is called perfect competition and the other is called monopoly.

In perfect competition, "price is determined for the industry (and for the firm) by the intersection of demand and supply. " (Griffiths & Wall, P155) If we assume all firms have profit maximising objective in common at this point, we could get Graph 1 below. Under perfect competition supply curve, which is also the marginal cost curve, intersects demand curve, which is also marginal revenue curve, at price Pc and quantity Qc. Under this condition, everyone is a price taker, because there are no barriers to entry, in other words, the concentration ratio is very low.

This is very common in wood products, and building materials in UK. In Chart 1 we can also find that industries like rubber products, tyres printing industry have very low concentration ratios. (Ganley & Salmon, P189) On the other hand, monopoly has its unique marginal revenue curve which intersect marginal cost curve at price Pm and quantity Qm. It is obvious that price under monopoly tend to be higher than under perfect competition. The reason can be concluded as there are very high barriers to entry which only allows one firm take control over the market.

Surely it is the price adjuster. However, monopoly creates economic inefficiency, known as the 'Dead-weight' welfare loss. The classical examples in UK are all the public utility departments before Thatcher government and some of the nature monopolies today. The other kind of market structure is classified as imperfect competition. One of it is known as monopolistic competition and the other is known as oligopoly. Both of them have some degree of control over price.

Under monopolistic competition, although there are many firms exist but each of them tries to make their products more distinctive than other competitors. For instance, there are millions of small Fish and Chips takeaways in UK, yet the price for fish and chips varies form place to place. One makes their burger tastier than other stores may put up a higher price for its burgers. Oligopoly situation forms when there are only a few producers dominant the market, in other words the concentration ratio in the market is very high.

Such industries like showing in Chart 1, petroleum products, coke and nuclear fuel are highly concentrated. (Ganley & Salmon, P189) While a few of them having control over majority of the market share, they are able to form a cartel and practice price-fixing if they collude. If they could not form an agreement or one of them starts cheating, the price war would start, which price will be as low as players are making zero profit or even running a loss. As we can see in Graph 3, at price P the quantity demanded is Q.

If the firm raises the price above P, few if any firms will follow suit. So at P individual oligopolist demand curve is elastic. If we want to extent it, demand curve becomes doted line after point E. If one reduces price and everyone follows, so drop in price would result little change in quantity. Point E is the kink point. As long as marginal cost curve intercepts with the doted area of marginal revenue, profit will always maximised at price P and quantity Q.