What this lesson teaches
I can judge how a firm's strategy affects efficiency, consumer welfare and other firms.
Syllabus 9570, 2.2.3(c). Firms' Decisions and Strategies: Impact of firms' decisions and strategies on:; efficiency (allocative, productive and dynamic efficiency); consumer welfare (consumer choice, product quality and consumer surplus); other firms (cost, revenue and profit)
Make a guess
A big supermarket slashes prices, and several small shops nearby close. Are consumers better off?
- Now, yes; later, it depends on whether competition survives.
- No, because small shops closing means fewer jobs nearby.
- Yes, because lower prices leave each shopper with more to spend.
Show the answer
Now, yes; later, it depends on whether competition survives.
Consumers gain from lower prices today. If fewer rivals remain, the supermarket may later raise prices or cut choice.
A firm's strategy affects consumers and rivals, not just its own profit, so judge each separately.
When a firm changes its strategy, look beyond its own profit.
Consumers may gain or lose through price, quality, variety and convenience. Consumer surplus measures how much they gain from buying.
Rival firms may lose sales, copy the strategy or leave the market. Fewer rivals can mean less competition in the long run.
A strategy that lowers prices today can hurt consumers later if it drives rivals out and the firm then raises prices.
- Consumers
- Price, quality, choice.
- Rivals
- Lose sales, copy or exit.
Worked example: A supermarket's own brand
A supermarket introduces a low-priced range under its own brand. Some shoppers switch from branded products. A small local supplier loses orders.
- Consumers who switch pay less, so their consumer surplus rises.
- The small supplier loses sales and may cut jobs or leave.
- If fewer suppliers remain, choice may fall over time.
- The overall effect depends on quality and on whether competition survives.
Watch out for this
If the firm's profit rises, consumers must be worse off.
Both can gain, for example if the firm lowers costs and passes some savings on. Judge consumers and the firm separately.
Check your understanding
A large firm cuts prices sharply, and smaller rivals leave the market. What is a possible long-run risk for consumers?
- Consumers gain more choice, because the large firm can now offer more products.
- With fewer rivals, the firm may later raise prices.
- Prices stay low, because the large firm's lower costs are passed on to buyers.
Show the answer
With fewer rivals, the firm may later raise prices.
Right. Less competition can mean more market power in the long run.