Price Fixing Definition
Price Fixing is an agreement (whether it may be in written form or orally spoken or it may be inferred from the conduct of same act) amongst the business rivals (i.e. competitors), that increases (very often), reduce (maybe for a short term), establishes or stabilizes (rare to happen) the prices disrespecting the prices governed by the flow of demand and supply in the market.
Normally, when consumers start buying a product in ample quantity in a short-term period (i.e., the demand is increased), the prices of those commodities will rise. On the other hand, if the demand is the same, but there are many suppliers for the same product (i.e., supply has increased), consumers get too many options to buy the same product & there occurs the negotiation & it eventually reduces the price of the product in the marketPrice Of The Product In The MarketMarket price refers to the current price prevailing in the market at which goods, services, or assets are purchased or sold. The price point at which the supply of a commodity matches its demand in the market becomes its market price.. This is a simple explanation of how prices move as per demand & supply.
Assume in a situation where the demand has not increased, yet prices at all the competitors have been increased abruptly (i.e., increased in stages or double at the moment). Here arises the suspicion that the price has been manipulated by competitors all together. The result of pricing fixing is always higher prices. An increase in prices is a major concern for the Government.
Like pricing fixing, there are other similar malpractices to reduce the competition, such as bid-rigging, market division, group boycotts, trade association, etc. Thus, the US has antitrust laws in place to reduce such illegal practices.
Examples of Price Fixing
Let’s see the following examples.
Say there are two companies (say X Inc & Y Inc) which sell the same product at $ 25 each. That means only two competitors for the same product. The consumers are buying the products from both the sellers. But now X Inc wants to attract more customers, reduces its price to $22 & eventually buyers get attracted to a relatively lower price. Observing this, Y Inc also reduced the prices at a lower price of $20. Eventually, consumers got attracted to Y Inc. If it goes like this, the gross profitGross ProfitGross Profit shows the earnings of the business entity from its core business activity i.e. the profit of the company that is arrived after deducting all the direct expenses like raw material cost, labor cost, etc. from the direct income generated from the sale of its goods and services. of each company will fall. So, both companies agreed to a price of $ 20 now, and after a few months, both will raise the price to $ 40. Consumers are indifferent between both products and are anyway required to purchase the product. Here, the law of demand & supply is disrespected, and the seller will charge as if it is a monopoly for them.
Let`s take a real-life example. In 2009, Amazon controlled the ebooks market due to the grand success of the Kindle. However, due to the lowering of prices, the publishers were not happy. Amazon would sell ebooks at $ 9.99, which was even below what Amazon paid the publishers for those titles. The publishers were worried about cheap ebook sales. Later in January 2010, Apple decides to open bookstores for ebooks. Publishers were expecting Apple as a competitor for Amazon & hence agreed for negotiation of prices. Later in 2015, all things revealed, and Apples were forced to pay $ 430 million as per the US Supreme Court ruling.
Types of Price Fixing Methodologies
We will discuss it here.
#1 – Price Fixation Agreements
Here the competitors make an agreement with each other to fix a price at their advantage. All competitors will increase the prices by the exact amount.
#2 – Government Order to Freeze Prices
When inflation has increased at higher levels, the Government may consider freezing the prices of essential commodities. Like in 2020, due to the outbreak of the Corona Virus, Governments all over the world have provided the maximum cap for sanitizers and self-hygiene products so that sellers don’t charge higher for these life-saving things.
#3 – Horizontal Price Fixing
This means sellers for similar products increase the prices altogether. This is the most generic type of price fixation. We can take the example of countries that export petroleum. The Central Government of those countries fixes the prices according to crude prices. Such price fixation is allowed for Governments but not to retailers of petrol pumps.
#4 – Vertical Price Fixing
This happens in supply chain management. The manufacturer of end product agrees with the raw materialRaw MaterialRaw materials inventory is the cost of products in the inventory of the company which has not been used for finished products and work in progress inventory. Raw material inventory is part of inventory cost which is reported under current assets on the balance sheet. supplier to raise prices so that the manufacturer can raise his prices of end products with the reason that input costs has been increased.
Signs of Price Fixing
- Tenders or quotes are a classic example of observing the signs of price-fixing. It may happen that all the tenders provide a higher price than what is normally justified. Higher cost tenders are submitted by hiking the input costs.
- Tenders don’t show detailed calculations for arriving at the prices. So, if a new supplier also charges the same amount as others, it shows signs of price fixation. Because usually, prices should ideally be dropped once a new competitor enters the market. Thereby, this indicates collusion or agreed upon prices among all the suppliers.
Why is it Illegal?
- Laws are made on the logic of possible mischief or the latest experiences of fraud.
- Who would you feel good to pay an extra $ 50 every year for buying pizzas from any of the suppliers? Obviously, a big NO! If the prices all over the market have increased due to an increase in the prices of bread, cheese, other stuff, then it’s reasonable to accept the price move. Otherwise, it is a case of price fixation.
- Price fixation reduces competition. If competition is reduced, we can see higher prices for lower quality products. This only increases the cash reserves of the supplier at the same time providing low-quality things to consumers. Since price fixation hurts the consumers and the businesses, it is considered as anti-competitive, and many fines are levied for such practices.
- The US has antitrust laws to reduce price fixation and other malpractices.
Exceptions to Price Fixing
- Exception means it is allowed to some extent. Exceptions are always made for the benefit of the general public.
- Price fixation is allowed when the Government wants to control the prices of essential commodities.
- Also, joint ventures are allowed to fix prices at their levels. Moreover, the pricing agreements between related parties are not considered as price fixation.
Criticism of Price Fixing
- Critics, however, support price-fixing by observing the benefits associated with the said agreements. They are of the view that there are ample amount of cost savings and increase inefficiencies after an increase in supply.
- It eliminates uncertainties among firms and also reduces marketing mistakes.
- Another critic suggests that due to price fixation, the prices can be moved to more competitive levels.
Horizontal vs. Vertical Price Fixing
- Horizontal Price Fixing occurs when it is done among the competitors. This is the most generic way of fixing prices. Generally, it is carried out through an agreement for maximum or minimum prices. In these cases, companies fix the prices at a higher level to earn higher gross profits. The consumer has no option but to buy at those higher prices.
- Vertical Price Fixing occurs when it is done along the supply chain. Generally, an agreement is made among the suppliers of raw materials, manufacturers of finished goods, distributors at all levels, and the retailers. However, so as to avoid legal disputes, some manufacturers like Apple go around this via vertical integrationVertical IntegrationVertical integration is a corporate approach to take charge of its value chain or supply chain functions. It is the process of holding and managing the distributors, suppliers and retail locations at the company's discretion.. Apple Inc operates through its own stores (i.e., not dependent on the third party) for the sale of its product.
- In the short run, it advantages the consumers due to the lowering of prices.
- It helps the Government to control inflation at a level.
- The government can pre-decide the should-be prices of most essential commodities.
- It helps to control the price fluctuations in regulated sectors.
- Also, it is hard to prove the price-fixing, which is agreed upon in secret in private meetings. Also, there is no general, no evidence of such agreements on paper. The only evidence provided is by the insiders who dealt in such malpractices.
In the long run, consumers have to suffer due to a hike in prices.
- Lower quality of products and/or services.
- Delayed customer support from suppliers.
- Such agreements reduce the competitive environment in the market, and thus it hurts the market sentiments.
- Rise in overall inflation during a shorter span of time.
- Reduction in the consumption pattern of consumers and then affects the whole market of the product.
Price fixing is anyway not acceptable in any market scenario. The more stringent laws are required to curb such practices. The competition bureau can conduct wiretaps, investigation of calls and emails or analysis of price movements, etc. to find the suspect price fixation. On the other side, consumers should not support such an all-of-a-sudden hike in the price of specific commodities. Consumers can purchase substitute goods or services in case of hike prices of other similar products or services. Consumers can reduce the consumption of unrequired or non-essential commodities. In a few cases, it is good to import the product from another country.
This has been a guide to what is Price Fixing and its definition. Here we discuss the types and why is price-fixing illegal with examples, advantages, and disadvantages. You can learn more about finance from the following articles –