Understanding Price Determination in Marketing

The role of price in the marketing mix

When pricing a product, a business needs to choose one that fits with the rest of the elements in the marketing mix

Price determination in a free market

People think that prices are determined by the seller of the product, but that is not quite so. Prices are driven by market forces called demand and supply.

Demand

Demand is not only that people want to buy a product, but that they want it and are willing to pay for it. Prices can affect how much demand there is for a product. Normally, if the price goes up, demand goes down, and vice versa.

Supply

Supply also varies with price. However, it is different. If the price goes up, then the owners would want to be supplied with more products to take advantage of the high price, thus the supply goes up (and vice versa).

The market price

For the market price to be determined, demand and supply must all be put onto the same graph. The place where the two lines (called curves) cross is called the equilibrium, where the same number of goods are demanded and in supply resulting in no leftovers. All the products are demanded and all of them are sold.

Factors that affect demand and supply

The graphs above assume that the demand and supply of goods are fixed. But these things can change, which shifts the demand or supply curve to the left or the right in the graph. Changes in the price affects where you are on the curves. But changes in other factors affect the position of the curve on the graph.

Factors affecting demand

• The popularity of substitute products
• The popularity of complementary products
• Changes in income
• Changes in taste and fashion
• Changes in advertising

The result is: if demand falls, the market price and sales will fall, and the demand curve will shift to the left. If demand rises, the market price and sales will rise, and the demand curve will shift to the right.

Elasticity of demand

Elasticity of demand is how easily demand can change when prices change. A product with an elastic demand curve would have a higher change in demand than a change in price. A product with an inelastic demand curve would have a lower change in demand than a change in price. The elasticity of demand of a product is mainly affected by how many substitute products that it has.