Setting a price

May 27, 2009

Price – what is price? Price is the perceived value that someone is willing to pay for a product or service in a market. It is a perception and therefore relative. Take a garment. If you put a dress in a boutique in a down-market part of town you could probably demand and get thirty to fifty euro/dollar for it depending on circumstances. Put the exact same garment into a high-end department store and nobody would pay less than one hundred and fifty euro/dollar for it. In fact if you were to put it on the racks in a high-end department store for fifty euro/dollar nobody would buy it as they would consider that it must be sub standard. Price reflects value. The higher the perceived value to the market the more the market is willing to pay. If you set your price below the market expectation you will not sell. Many businesses have sold more by putting up their price.

In some markets price is given. We all know the general price for milk or bread and will not pay outside a general price band. In economics we refer to these markets as perfectly competitive markets, where there are so many people in the market that no one operation can set a price higher than the market price, so all sellers take the equilibrium market price. Not all markets are like this. Specialist markets exist where customers do not have a great knowledge of the market and thus the seller can set a price within reason.

Another aspect of pricing is what is referred to as “Price Elasticity of Demand”, a flashy economics term which has definite and real effects on your price. If a product is price inelastic then demand does not fall off heavily if there is a price increase. For example petrol is price inelastic in the short term. If petrol goes up in price we still have to buy it to get us from A to B. However, many products are price elastic. In this case a small price increase can result in a sharp fall off in demand. Share prices can give an example of this. If a large company produces lower than expected profits then the share price can fall dramatically. Even though the company is still sound and still in profit an unexpected profit reduction can see 10 – 20 % fall in share prices.

Thus there are many aspects to pricing a product or service. The old advice of charge what the market will bear is a good one. Price cutting is a dangerous strategy, as if there is a set market price and customers are already willing to pay it, then why should you devalue your product or service by undercutting prices. And remember that the same product can be valued differently in different markets and market niches. A one-price-fits-all approach is not always appropriate.

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