What is Pricing Power
Pricing power is an economic term referring to the effect that a change in a firm's product price has on the quantity demanded of that product. Pricing power ties in with the "Price Elasticity of Demand."
BREAKING DOWN Pricing Power
Generally speaking, if a company does not have much pricing power then an increase in their prices would lessen the demand for their products.
If a company is the provider or source of a rare or unique product with few rivals in the market, the company may have substantial pricing power since it could raise prices without diminishing demand for the product.
For example, when the iPhone was initially introduced by Apple, the company had substantial pricing power as it essentially defined the smartphone and app market with the launch of the product. At the time, the cost to procure an iPhone was high and could remain so because of a lack of rival devices. Even as the first competitor smartphones emerged, iPhone continued to represent the high end of the market in terms of pricing and expected quality. As the rest of the industry began to catch up in service, quality, and availability of apps, Apple’s pricing power diminished. The iPhone did not vanish from the market as more entrants arrived. Apple began to offer new models of iPhones in multiple variations, including less-expensive models targeted at more budget-minded consumers.
The Role Scarcity Plays in Pricing Power
The scarcity of a resource or raw material can play a significant role in pricing power, even more so than the presence of rival providers of a product. For example, various threats, such as disasters that put the oil supply at risk, lead to higher prices from petroleum companies, despite the fact that rival providers exist in the market. The narrow availability of oil, combined with the widespread reliance on the resource across multiple industries means that oil companies retain significant pricing power over this commodity.
Other industries can exhibit strong pricing power during times of high demand and scarcity. Referred to as dynamic or surge pricing, the hospitality, transportation, and travel industries tend to increase their prices for accommodations at peak times, such as holidays or when special events are being held.
For instance, on New Year’s Eve, taxi and car services might significantly increase their rates because of the demand expected that night. Hotels increase the rates for their rooms on dates close to conventions being hosted locally, as well as during major holidays when tourism is expected to increase drastically. These are all instances where the pricing power of the companies increases because demand for accommodations will not diminish due to price.