Microeconomic Pricing Model

A model of the way prices are set within a market for a given good. According to this model, prices are set based on the balance of supply and demand in the market. In general, profit incentives are said to resemble an "invisible hand" that guides competing participants to an equilibrium price.

The demand curve in this model is determined by consumers attempting to maximize their utility, given their budget. The supply curve is set by firms attempting to maximize profits, given their costs of production and the level of demand for their product. To maximize profits, the pricing model is based around producing a quantity of goods at which total revenue minus total costs is at its greatest.

In general, the balance of power within the market determines who is more successful in setting prices. For example, a monopolist, such as a utility company, has a great deal of power to set prices at the most advantageous point for the firm. On the other hand, in a perfectly competitive market, such as farming, firms have little choice but to accept the prevailing market price if they wish to sell their goods.


Investment dictionary. . 2012.

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