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Cell phones are not sold below cost. You can only get them at a "below cost" price when buying them with a contract which is typically worth $1500+. It's simply deferred payment, not selling below cost. The key here is that paying the additional money later on is not optional. They will charge you fees, hit your credit, send debt collectors after you, and could potentially sue you if you don't pay.

It's true for video game consoles, occasionally, but the consoles are not very useful without games, which they make plenty of money on. The overall average price paid by customers over the lifetime of their purchases is correlated fairly well with the cost of making the stuff. The same goes for razors, printers, and whatever else you care to find that follows this model.

In any case, these are the exception, not the rule. The price of things I normally buy, like food, clothes, gasoline, electricity, and yes, electronics, are strongly based on their costs.

Prestige brands can be sold well above cost precisely because luxury brands become less competitive. Cheap handbags are basically fungible, but luxury ones aren't. When people want an LuxuryCo handbag, they want that, not an equivalent knockoff brand.

When it comes to telecommunications, you can see this happen in competitive markets like hosting providers. The price you pay for a server is pretty strongly linked to the cost of running that server. Dialup ISPs followed the same curve, ultimately ending up with service that was basically free (often ad-supported) because it cost so little to provide, because dialup was a competitive market. Home broadband generally isn't in the US, resulting in prices which can substantially exceed the costs of running the service. In places with more competition, prices more closely match the costs.

To quote the All-Knowing Wikipedia:

"In perfect competition, any profit-maximizing producer faces a market price equal to its marginal cost (P=MC). This implies that a factor's price equals the factor's marginal revenue product."

http://en.wikipedia.org/wiki/Perfect_competition

Of course, you never get perfect competition in the real world, but that's just my point: to the extent that prices don't match costs, it's because competition isn't perfect. The less competitive a market, the less the correlation between prices and costs.




I agree completely about luxury/prestige brands. Your real argument here is about commodities, and designer stuff is intended to not be a commodity. But regarding those commodities...

(please interpret these questions as being investigative rather than argumentative; I see something compelling in your argument, but I'm not sure I completely buy it. I want to understand better)

I understand what you're saying about a market in which consumers would be willing to pay more. The higher prices are a flag waving, showing profit opportunity to other potential competitors. Those others will enter the market and force down prices until the profit margin to be had reaches a level lower than they'd be able to get if they invested their resources into a different market.

But I've got a vague thought in my mind that I can't quite work through, having to do with demand level (as opposed to actual quantity demanded). It seems to me that if the amount that consumers would like is huge, then the degree to which demand pulls on the equilibrium is much greater. Ordinarily, a supplier's production limit is how much they can get the consumers to purchase. But if demand is so great that consumers will buy everything that can be produced (due to input resource constraints, or long lead times in building production capacity or something), then producers can continue to sell at prices that are high relative to production costs.

Where's the hole in that logic? I see the potential for one in my caveat about input resource constraints: if there's a high-profit item whose production and sales are bounded only by resource availability, then presumably the producer will attempt to buy more of that resource, thereby raising its price. Thus, the underlying cost of production would rise to meet the price (rather than the price declining to meet the cost, as previously argued).

But what about the other barriers to entry, such as the time necessary to build a factory? The fact that a new factory must be built does not mean that the market's not free.


> But I've got a vague thought in my mind that I can't quite work through, having to do with demand level (as opposed to actual quantity demanded). It seems to me that if the amount that consumers would like is huge, then the degree to which demand pulls on the equilibrium is much greater. Ordinarily, a supplier's production limit is how much they can get the consumers to purchase. But if demand is so great that consumers will buy everything that can be produced (due to input resource constraints, or long lead times in building production capacity or something), then producers can continue to sell at prices that are high relative to production costs.

Markets are very very rarely perfect. Everything you have described above is a barrier to entry in the given market: it will make the market take longer to reach equilibrium, if the market ever reaches a natural equilibrium at all. Keep in mind though over time supply becomes elastic - if you're making a killing selling deodorant, you can bet that competitors will take notice and open up their own deodorant factories. Or you can expand your own production and make more profit.

> Where's the hole in that logic? I see the potential for one in my caveat about input resource constraints: if there's a high-profit item whose production and sales are bounded only by resource availability, then presumably the producer will attempt to buy more of that resource, thereby raising its price. Thus, the underlying cost of production would rise to meet the price (rather than the price declining to meet the cost, as previously argued).

"Resource availability" is a tricky thing. Generally as a resource becomes more valuable, more opportunities open up to produce it. See oil drilling: at first, the oil was under the ground in so much pressure that it would gush to the surface. People in Spindletop TX gathered oil by putting out buckets in the early days. Now we have to do seismic surveys use complex drilling techniques to get oil. What makes those techniques profitable? The current high price that oil commands.

This is why supply and demand are modeled as linear relationships. Cost of production generally increases per unit as more units are sold and the producer starts running out of ways to produce. Demand generally decreases as something becomes more expensive per unit.

However, both are more flexible (elastic) in the long run. Let's say you produce widgets and there's a sudden surge in demand. You can't expand your stock overnight. But you can open a new factory in a year increasing your supply. On the other side, if you are a consumer and gas prices double tomorrow, there's not much you can do immediately besides fill up your tank. But six months from now, you might set up a carpool or start biking to work.

All of the examples you give were studied in my microecon class (take a look at supply elasticity, which sounds like what you're describing here). If you'd like to learn more (and are in the position to do so) I'd highly recommend taking such a class.


Just what I was going to reply, except better.

I want to add that capital investments required to enter a market aren't usually an absolute requirement to produce the item at all, but just a requirement to be able to do so at a competitive price. You can almost always throw money at the problem and increase production, even if just marginally. For example, iPhone production is probably completely maxed out right now, but if for some reason it was worth a billion dollars to Apple to produce one unit beyond their current capacity, they could come up with a way to build an extra one that didn't involve spending months building a new factory first.




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