Strategic Pricing in Volatile Markets

Abstract

Dynamic Strategic Pricing Firms use pricing strategically to influence entry and exit of competitors. A key form of strategic pricing is limit pricing, whereby a market incumbent sets low prices to deter a potential entrant. In practice, strategic pricing takes place in dynamic, stochastic environments: An incumbent that uses prices to signal unprofitable entry, in reality, has to do so repeatedly and under changing market conditions. In “Strategic Pricing in Volatile Markets,” Gryglewicz and Kolb study dynamic entry deterrence through limit pricing in markets subject to persistent demand shocks. The primary insight is that when the market is subject to persistent shocks, the incentive to signal disappears in some market conditions. In equilibrium, pricing and entry decisions exhibit path dependence, depending not only on the market’s current size, but also its historical minimum. When prices are used as signals to deter entry, prices can increase for strategic reasons over an interval of time during which demand falls.