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Does competition always lead to lower prices in the market?

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Felicita Burton eNotes educator | Certified Educator

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The relationship between competition and price depends on a large number of factors. Competition does not always drive price down; in fact, it may drive prices up in certain circumstances.

One important factor is the product under consideration. A product that is very expensive to bring to market will have only a few producers. The transportation and defense industries provide good examples. There are only a few manufacturers of commercial aircraft; while there is competition among them, the price of an aircraft is not determined by that competition. Instead, the firms may compete to create a superior product, which will be priced higher than that made by their rival.

Another way that competition serves to increase prices is for commodities, especially scarce ones, where the sellers want to keep the prices as high as possible and to keep the number of sellers correspondingly low. In such cases, a few sellers may temporarily reduce prices so drastically that small businesses cannot stay in business; the large business then buys them out, further reducing the number of sellers. The individual members of this new, smaller group—a cartel—then raise the prices as high as the market will bear. Once accomplished, the cartel then acts to suppress further competition in order to maintain the high pricing.

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