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Sunday, August 13, 2006

Price competition in pizza - Arlington, TX version

In our neighborhood we have a Papa John's, a Cici's and a Little Caesars. The PJ's has been around the longest, followed by Cici's and LC, and Cici's is the only one that has seating for in-house dining.

When Little Caesar's opened it began offering a large walk-out pizza in either cheese or pepperoni for $5. Papa John's countered by offering a large one topping pick up for $5.95 after tax. The difference is that you can choose your topping and even split toppings - say, half sausage and half mushroom.

Meanwhile, Cici's has been silent over the past six months in the face of this price competition. This has now changed. The other day, Cici's had a street-walker holding a large sign announcing a large, one-topping walk-out pizza for $4.95.

Three pizza joints, two within an eight iron of each other, and the third a little further away - say a four iron - are engaged in price competition. Three firms located so close to one another engaged in price competition might sound like a classic Bertrand (aka Cournot-in-Price) market in which prices would eventually fall to marginal cost.

I find it unlikely because a) the pizzas are not perfect substitutes (although close), b) no single pizza joint could cater to the entire market if they had the chance (that is, LC couldn't produce enough pizzas to satisfy the entire market demand, and neither could PJ's or Cici's).

Nevertheless, it is an excellent example of how firms cannot ignore what their competitors are doing. Moreover, my contention would be that the downward pressure on price through competition is much more common than the layman's assumption that firms collude to raise price.

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