What is 'Price Leadership'?

Price leadership is when a leading firm in its sector determines the price of goods or services. This can leave the leader's rivals with little choice but to follow its lead and match the prices if they are to hold onto their market share. Alternatively, competitors may also choose to lower their prices in the hope of gaining market share.

BREAKING DOWN 'Price Leadership'

The impacts of price leadership are more apparent in goods or services that offer little differentiation from one producer to another. Price leadership is also apparent where consumer demand levels make a particular price selected by the market leader viable because consumers are drawn from competing products. There are three primary categories of price leadership: barometric, collusive and dominant firm.

Types of Price Leadership

The barometric model occurs when a particular firm is more adept at identifying shifts in applicable market forces, allowing it to respond more efficiently within the market sector. If the company is known for its skill in this area, other producers follow its lead under the assumption that the price leader is aware of something that they have yet to realize.

The collusive model occurs when a few dominant firms agree to keep their prices in mutual alignment. This is more common in industries where the cost of entry is high and the costs of production are known. Such agreements can be illegal if the effort is designed to defraud the public. For example, in 2012, Apple was accused of colluding with e-book publishers to artificially inflate product prices.

The dominant firm model occurs when one firm controls the vast majority of the market share within an industry. As the dominant firm adjusts prices, any smaller firms within the segment must follow suit to retain the small amount of market share they currently possess.

Price Leadership and Increased Profitability

In cases where the price leader raises prices, the effects of price leadership can be positive since its competitors are justified in raising prices higher based on the actions of the price leader. If all prices rise, the increase can be instituted without the significant threat of losing market share to competing products. In fact, higher prices may improve profitability for all firms as long as overall consumer demand remains steady.

Potential Negatives of Following Price Leaders

More commonly, undisputed market leaders, such as the big-box retailers, use their operating efficiencies to mark down prices relentlessly. This forces smaller rivals to lower prices to retain market share. Since these smaller firms often do not have the same economies of scale as the price leaders, this attempt to match the leader's prices may lead to mounting losses over a prolonged period to the point where they may eventually be forced to close their doors.

RELATED TERMS
  1. Leadership

    Leadership is the ability of a company's management to make sound ...
  2. Market Leader

    A company with the largest market share in an industry that can ...
  3. Market Challenger

    A market challenger is a firm that has a market share below that ...
  4. Hersey-Blanchard Model

    The Hersey-Blanchard Model is a leadership approach that suggests ...
  5. Servant Leadership

    Servant leadership is a leadership philosophy in which an individual ...
  6. Succession Planning

    Succession planning is the strategy for passing on leadership ...
Related Articles
  1. Investing

    5 Characteristics of Good Growth Stocks

    Growth stocks can give investors good returns but not all growth stocks are the same. From leadership to growth, there are traits investors can look for that help them find the best growth stocks.
  2. Financial Advisor

    FAs Should Factor Clients Into Succession Plans

    Financial advisory firms are finally taking succession planning seriously. Here's how.
  3. Small Business

    What Is Servant Leadership?

    Learn more about Robert Greenleaf's concept of servant leadership. Many believe it is the key to avoiding greed-based company activity.
  4. Insights

    E*Trade Poll Shows Active Traders Want Fed Leadership Change

    E*Trade commissioned a recent poll that shows the majority of active traders think a change in the Fed leadership will be good for the economy.
  5. Investing

    Great Expectations: Forecasting Sales Growth

    Predicting sales growth can be something of a black art, unless you ask the right questions.
  6. Financial Advisor

    Be A One-Stop Shop For Your Clients

    Offering a comprehensive suite of financial services can bring in business, but coordination and customization are key to success and customer retention.
  7. Investing

    Tech Stocks Vs. Financial Stocks in 2016

    Consider the arguments for allocating more of your investment portfolio to either the technology sector or the financial sector for 2016.
  8. Small Business

    Calculating (Small) Company Credit Risk

    Determining creditworthiness of smaller and medium-sized corporations isn't as easy as for larger companies, but these tips can help.
  9. Trading

    4 Key Indicators That Move The Markets

    Do you rely on indicators to make an investment move? Find out these key economic and market indicators to watch and react to market movements.
  10. Financial Advisor

    The Top 5 Reasons Financial Advisors Leave Their Firm

    Understand what creates dissatisfaction between financial advisers and their firms, and learn the top reasons advisers ultimately make the decision to leave.
RELATED FAQS
  1. What are the different types of IPO issued?

    Learn about the two ways for a company to go public: fixed price and book building. Under fixed price, the share price is ... Read Answer >>
  2. What are the key barriers to entry in electronics?

    Learn how the entry barriers of economies of scale and scope, research and development, capital, and brand loyalty affect ... Read Answer >>
  3. What strategies do companies use to regain market share they have lost?

    Learn about the three simplest ways companies can regain lost market share: pricing changes, promotional changes and product ... Read Answer >>
Trading Center