September 11th, 2006

Predatory Pricing


Someone posted a comment about Predatory pricing on my previous entry on VoIP. The premise is that Predatory pricing to gain monopoly is only a myth and mainstream economists have already rejected Predatory pricing theory.

Read The Myth of Predatory Pricing if you are interested but in short predatory pricing is economical irrational. Selling below cost is not neccessary a predatory pricing practice as sometimes it makes sense to sell below cost anticipating the cost will go down with increase volumes (e.g. Ford Model T). Most important of all, no one has successfully become a monopoly using predatory pricing tactics but there are plenty of failures trying to do so.

Nevertheless, I think the VoIP scenario in my previous entry is a case where “predatory pricing” is logical. In this case, it involves a fixed pricing of a service to the market. That although it also offers the same pricing to its competitors as well as its own subsidary (as mandated by government or fair competition or otherwise), its own subsidary is able to sell the service below the fixed pricing so long its is price above the cost of providing the service. So even though the subsidary maybe making loses, the overall company is still profitable.

Therefore, it is economic rational strategy as the company will continue to be profitable while at the sametime keeping the competitions out of the market.

But what about competition? If the company engages in predatory pricing, wont it forces the competitors to enter the market with their own service? Well, in the first place, telecom is often a coercive monopoly, a monopoly granted by statutory, that one needs to jump through hoops of regulation to break that barrier.

Assuming you can break that statutory barrier, telecom industry is also a natural monopoly. The cost of replicate an incumbent network to provide the same services is often very high with very long return on investments. Given the incumbent already has the infrastructure build out, and that so long it is willing to engage in “low-cost signaling” (a game theory), it could effectively deter investors from financing a competition.

Of course, this would only last until a new technology comes along that brings the cost or the return of investment or both down significantly. Many years ago, Microwave did that once to the (interstate-long-haul) industry creating MCI (what do you think the M in MCI stands for?). And today, it seem like WiMAX is going to do the same for the (last-mile) industry again….the question is which company will it create?

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