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Fixed Costs Matter

Author

Listed:
  • Jurjen (J.J.A.) Kamphorst

    (Erasmus University Rotterdam)

  • Ewa (E.) Mendys-Kamphorst

    (CEG)

  • Bastian (B.) Westbrock

    (Utrecht University)

Abstract

According to standard economic wisdom, fixed costs should not matter for pricing decisions. However, outside economics, it is widely accepted that firms need to increase their prices after a fixed cost rise. In this note, we show that a liquidity-constrained firm that maximizes lifetime profits should increase its price after a fixed cost increase, if future profits depend positively on current sales. The reason is that then the optimal price is lower than the one that maximizes the current profit. Because the higher cost necessitates higher current profits to avoid bankruptcy, the firm needs to increase its price.

Suggested Citation

  • Jurjen (J.J.A.) Kamphorst & Ewa (E.) Mendys-Kamphorst & Bastian (B.) Westbrock, 2018. "Fixed Costs Matter," Tinbergen Institute Discussion Papers 18-095/VII, Tinbergen Institute.
    • Handle: RePEc:tin:wpaper:20180095
    as

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    References listed on IDEAS

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    More about this item

    Keywords

    fixed costs; sunk costs; brand loyalty; switching costs; pricing;
    All these keywords.

    JEL classification:

    • D42 - Microeconomics - - Market Structure, Pricing, and Design - - - Monopoly
    • L11 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Production, Pricing, and Market Structure; Size Distribution of Firms

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