Margin pricing not only affects rising prices, as we discussed yesterday but also affects falling prices. Consider how a new Wal-Mart store drives smaller business with higher cost structures out of business. With the exception of a monopolized industry or organized union, unregulated market forces will bring prices down to the lowest level (the margin).
If prices in a particular industry rise, more businesses with higher cost structures will enter the market as the higher margin price makes it economical for them to do so. The increased competition will prevent prices from rising any further, reaching a sort of “price equilibrium”. Likewise, if supply can be met by either increased production capacity or lower demand, the margin price will fall.
Then companies with higher cost structures will no longer be able to compete on price, and will likely be forced out of business unless they change their business and economic models. Keep in mind that most industries are not completely unregulated. When providers or producers with lower cost structures feel at risk from the new competition they often use their very high-profit margins to protect their future profits by erecting barriers to newcomers or driving out competitors. For example, they may contribute cash generated from excess profits to the campaigns of lawmakers or Political Action Committees (PACs) that support increased regulation beneficial to them.
They may also support creating unions that control new entrants into a market, thereby placing a lid on supply. Many factors are at play in establishing the margin price. A successful entrepreneur is one that keeps his eyes and ears open and takes stock of events happening around him. This is important not only to determine the margin price but to consider the impact potential events could have on the margin price in the future and develop contingency plans to deal with them.
What events are happening around you that will affect the margin price in your industry?
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