The Fallacy of Composition and its application to pricing

The Fallacy of Composition involves making the incorrect assumption that just because something is true for an individual, it is therefore true for the whole.

For example – suppose you are watching a live sporting event and you can’t see. You stand up. At an individual level this works well. However if everyone does it then nobody is better off.

Pricing strategy provides a great example of this. If you reduce your prices then you might benefit by getting an increase in market share. However if everyone in your market reduces their prices by the same amount then your market share will remain the same however your margins will reduce. Everyone loses.

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