Bertrand's competition is an economic theory, which indicates how two firms will compete in a duopoly market, using 'price' as a weapon. Bertrand Competition is an economic duopoly model. Its theory was propounded by Joseph Louis Fran?ois Bertrand and is named after him. This theory was actually made to criticize the Cournot's model which stated that companies will compete with each other by changing the quantities manufactured by them. This implies that the quantities manufactured or produced is the factor that will determine their market share and profits.
The Bertrand's economic competition model incites the changes in the prices charged by the sellers and the quantities that consumers would prefer to buy at that price. Assumptions of the Theory The following assumptions were made in the theory.
Bertrand's theory describes a duopoly market in which two firms are competing with each other through a price war. As per the assumptions made, if the price of a good from 'Firm 1' is less than the price charged by 'Firm 2' then, all the consumers will buy goods only from Firm 1. And, Firm 1 will be able to cater to all the consumer demands. However, if Firm 2 also reduces its price making it equal to the equal to the price charged by Firm 1, then, the total demand and the total sale will be equally divided between the two firms. If the price war continues, then firms eventually will reach a point where they will charge a 'Marginal Price'. After reaching this point none of the firms can further lower their prices and will reach a point of stagnancy. Diagrammatic Explanation I have tried explaining this theory using a diagram. In the above diagram, the following points are indicated. Pm = Monopoly Price MC = Marginal Cost ($50) P1 = Price Charged By Firm 1 ($100) P2 = Price Charged By Firm 2 ($90) P3 = Price Charged By Firm 1 ($70) P4 = Price Charged By Firm 2 ($60) Initially 'Firm 1' and 'Firm 2' both are operating at monopoly prices that is indicated as Pm. Both the firms are charging the same price for the same good and the market demand is equally divided among them. Now, to compete with Firm 2, Firm 1 will charge a price lower than Pm, at $100. As, per the assumptions made in the theory all the market demand will now shift to Firm 1. As a counter response, Firm 2 will charge a price lower than Firm 1, i.e. at $90. Now, all the demand shifts to Firm 2. Both the firms continue competing by lowering their respective prices. Eventually, they lower their prices to the marginal cost (MC), which is $50. Both the firms cannot lower their prices below this level, as any price charged under the MC will prove to be a loss to the firm. Now, if either of the firms charge a price lower than the MC, then all the demand will be directed to that firm, but the firm will make no profit. That's when both the firms reach the point of 'Nash Equilibrium'. At this point, none of the firms can lower their prices further. Therefore, they reach a point of stagnation, a no-win situation. To earn profits, both the firms will have to maintain their prices at the 'monopoly prices', and enjoy the profits derived by catering to half of the market demand. As both the firms won't really reach to a mutual agreement, it is best that both continue charging the same price. Concept of Limit Pricing If one of the firms has a price advantage over the other firm because of an efficient technology used in manufacturing, then that firm will charge a price just below its 'Average Cost'. This will enable it to charge a lower price than the other firm, without making a loss, and will overtake the entire market demand. In Bertrand's theory, this is called "limit pricing". Advantages of the Theory
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来自: Hyksos > 《Economics》