The Systemic Risk of a Marginal Cost Regime

After I've written the Uberization post yesterday the risk of marginal cost (more a danger) came to my mind.

In discrete manufacturing, we often thought about what will the next part cost and how to increase productivity to drop it. And along with this, makers thought of achieving market leadership by establishing a marginal cost pricing regime. As a result of this race the market became quite unstable.

The down spiral in a marginal cost regime

It is not so easy to understand marginal cost. It does not include past development, design, set-up... cost of the products and their manufacturing systems. Only the direct cost at risk of the next item are calculated. But what implications will this have to modernization, improvements, flexibility...? Will fixed cost be only allowed if they fit into the marginal cost regime?

What will the next e-book cost, what the next digital copy of a John Coltrane concert, what the next use license of a piece of software?

Fair prices?

In a competitive, undifferentiated market the price will generally be lowered until it is just above marginal cost. Especially in a market segment that promises "fair prices".

The only defense against the race to marginal cost is differentiation, products that have no substitute…radical innovation.

Financial instruments a prototype?

What will the next financial instrument cost? The values of financial instruments are calculated under the fair price assumption. How they are traded depends on Value at Risk calculations across various risk factors. A newer one is counter party risk. To minimize it prices shall be adjusted by CredidValueAdjustment/FundVA/DebtVA (xVA) calculations. Regulatory bodies came further to the conclusion that the centralization of counter parties (clearing) will help to reduce risk?!

Let us assume the calculation of xVAs are widely used to organize a prerfect collateral management with central counter parties, and the risk will be optimized in a way that the marginal cost are intuitively approaching zero.

So, if the regulators do not only force market participants to apply xVA calculation ito risk management, but to pricing, will this have similar effects as above? With the expectations of frozen counter party relations, counter-business clearing out to zero nettings ..?

Industries thats intuitive marginal cost of their products may approach zero are inherently unstable.
And if a few market participants figure out how to become the champion-in-all-arenas the effective marketing hypothesis is (definitely) broken.