Limit Pricing

Here is a picture to show how an incumbent firm can take advantage of economies of scale in order to drive out competition. If it sets a price below CNE (the cost to new entrants) and above CI (the cost to the incumbent) then it can continue to make a supernormal profit whilst the new entrant will make a loss. In the short run it may make lower supernormal profits but in the long run it is likely to benefit from a more inelastic demand curve (as there is less competition, since they have been driven out by limit pricing) and can make a larger supernormal profit. [...]