This is a quote from a long AP article:
This seems illogical to me. How does this incident support the contention that “nobody wants to be first”? Kellogg was the second company to make this move, not the first. Did Post see a reduction in profits? And if so, why did they lower the price? And if Kellogg lost profits from cutting prices, how can one say that they were “forced” to cut them in response to Post’s actions?
My guess is that Post gained increased sales and profits by cutting their price, even though their profit margin may have been reduced. The problem is that this only works as long as their competitors keep their high prices. Once their competitors see a major drop in sales volume and profits, they cut their prices to be competitive with Post. This increases sales and profits, but not to the same level they enjoyed before Post cut their prices. The end result is that everyone is operating with reduced margins and profits, assuming that demand doesn’t change much.
This has to do with “cartel theory”. There are two endpoints to simple markets, pure competition and pure monopoly. In pure competition, everybody keeps cutting price to the bare minimum, no producer makes “excess” profit. In pure monopoly, prices are raised until the point where the single producer makes the maximum total amount of profit, that is, they are raised until raising prices further causes a reduction in sales that outweighs the increase in profits on each sale.
Cartels are an attempt to create an artificial monopoly by having each individual producer raise price (and reduce volumes) so that all producers can reap the additional profits. The trouble with cartels is that each individual producer has an incentive to slightly lower price and increase volume, they make more money because all the other producers are helping to keep prices elevated. If all of the producers act this way, you go back to competition, and all lose. Cartels require work, enforcement, to remain effective.
The cereal business looks like they were operating a pseudo-cartel, with all the producers acting to keep prices elevated on a wink-wink basis. Nothing official, no illegal collusion, just each major operator recognizing that higher prices are better for everyone, so nobody is going to kill the golden goose by lowering prices. Until Post has a marketshare problem (presumably) and decides to try and improve their position by lowering prices, and everyone lowers prices to match. Post may have made more money for a while, or at least solidified their position in a less profitable market.
This is oligopoly. “[N]obody wants to be first” really means “everyone understands that everyone understands that price competition will hurt all firms so that the firm that makes the first price cut will be slitting all our fat throats”.