What is Markup Pricing Theory?

Markup Pricing Theory is a post Keynesian theory that derives the price that the manufacturer sets for his product. The Markup Pricing Theory can be stated in simple terms as the Price (P) is the sum of the average profit per unit sold and the average cost of the product.

P = Average Cost + Markup

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Or in other words, the manufacturer sets the price of the commodity but calculating the average costs incurred for manufacturing the product and adds to it the amount that he wishes to earn as a profit in selling it. This theory of pricing by a capitalist is called the Markup Pricing Theory. The costs for production include the prices of the raw materials of the input as well as the processing, labour and production costs. These costs are determined as standard volume output. The amount added by the manufacturer is the profit per unit or Profit/Q. So the Markup is equal to Profit/Q.

Markup = Profit / Q, where Q stands for unit of the product

Advantages and Uses Markup Pricing Theory

There could be many reasons for setting the price according to the Markup Pricing Theory. Some of them are:

• the manufacturer cannot know in advance the number of units of the products that will be sold or the aggregate of the profit that can be earned. So, setting the price through the Markup Pricing Theory, the manufacturer can determine the profit rate that can be earned.
• as too high a price is unfair to the customers and eventually harmful for the business and too low a price is profitless to the manufacturer, setting a price using the Markup Pricing Theory seems reasonable and fair to both the manufacturer as well as the consumer.
• since the Markup Pricing Theory is not really designed for maximising the profits, this method allows the business “to reproduce itself and grow” (Lee, 1984 pg.1108).
• the Markup Pricing Theory formula is simple and thus serves in reducing the cost and complexity in setting the price especially for manufacturers dealing with a multitude of products. The retailers, for example, use the Markup Pricing Theory to set the selling prices of the articles with a 40% markup over the cost price.

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