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International Economic Lecture 3

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International Economic Lecture 3

International Economic Lecture 3

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  • 1. Lecture 3
    July 12th 2010
    Saksarun (Jay) Mativachranon
  • 2. Regulation and Antitrust Policy in Globalized Economy
  • 3. Key learning objectives
    Distinguish between economic regulation and social regulation
    Recognize practical difficulties that arise when regulating the prices charged by natural monopolies
    Identify potential benefits and possible negative side effects of social regulation
    Understand the foundations of antitrust laws and regulations
  • 4. Forms of Industry Regulation
    Two basic types of Government Regulations
    Economic Regulation of natural monopolies and nonmonopolistic industries
    Social Regulation of all industries
    The US government began regulating both types early in the nation’s history
    The amount of government regulation began increasing in the 20th century
  • 5. Regulation on the Rise
  • 6. Regulation of Natural Monopolies
    Initially, most economic regulation in the US was aimed at controlling prices in industries considered natural monopolies
    Overtime, federal and state government have sought to influence products and processed of firms in a variety of industries
  • 7. Definition of Natural Monopoly:
    A natural monopoly exists in an industry where a single firm can produce output such as to supply the market at a lower per unit-cost than can two or more firms.
    Ex.
    Electricity and Water supply industries are often natural monopolies
  • 8. Why Regulate Natural Monopoly?
    The need to avoid duplication of facilities
    The need to prevent industries from earning monopoly profits
  • 9. Profit Maximization and Regulation Through Marginal Cost Pricing
    Point F
    • Profit maximizing point for natural monopolist
    • 10. Price (Pm) where consumers willing to pay for the quantity (Qm)
    Unit Price
    F
    Pm
    LMC
    LAC
    Demand
    Qm
    MR
    Quantity per Time period
  • 11. Profit Maximization and Regulation Through Marginal Cost Pricing
    Point B
    • Regulated price = Long-term Marginal Cost, Quantity (Q1) = Demand
    • 12. Average Cost (AC1) > Price (P1), natural monopolist is losing money = Area (Losses)
    • 13. Regulatory commission will have to subsidize the cost
    Unit Price
    LMC
    AC1
    LAC
    Losses
    B
    P1
    Demand
    Q1
    MR
    Quantity per Time period
  • 14. Average Cost Pricing
    Point C
    • Regulators cannot always force marginal cost pricing
    • 15. Enforcing Cost-of-service regulation or Rate-of-return regulation
    Unit Price
    LMC
    C
    P2
    LAC
    AC1
    Losses
    P1
    B
    Demand
    Q1
    Q2
    MR
    Quantity per Time period
  • 16. Regulating Nonmonopolistic Industries
    To provide a coordinated system of safeguarding the interests of citizens
    Two common rationales for government involvement
    Market Failure
    Asymmetric information
  • 17. Regulating Nonmonopolistic Industries (cont.)
    Lemons Problem
    Potential asymmetric information problem bring about a general decline in product quality
    Example: Used car market, pharmaceuticals, etc.
    Implementing consumer protection regulation
    Liability laws and government licensing
    Direct economic and social regulation
  • 18. Social Regulation
    Social Regulations apply to all firms in the economy
    Designed to improve the functioning of the markets
    Almost all cases, increased regulation results in higher production cost, and those increment cost are ultimately absorbed by the consumer
    Strict regulation prevent smaller firms to enter the market
  • 19. Social Regulation (cont.)
    Usually benefit the society in the long run
    Safer products
    Safer workplaces
    Clean environment
    Etc.
  • 20. Incentives and costs of Regulation
  • 21. Incentives and Costs of Regulation
    Capture Hypothesis
    Predicts that the regulators will eventually be captured by the special interests of the industry being regulated
  • 22. Incentives and Costs of Regulation
    Share-the-Gains, Share-the-Pains Theory
    The regulators must take account of the demands of three groups;
    Legislators
    Regulated industries
    Consumers
  • 23. Incentives and Costs of Regulation
    Benefits of regulation
    Regulation offers many potential benefits
    Actual benefits are more difficult to measure
    Costs of regulation
    Government uses taxes to pay for the cost of regulation
    US has over 190,000 employees in regulatory agencies
  • 24. Incentives and Costs of Regulation
    Total cost of regulation (US)
    Cost of compliance estimated to be around $500 billion - $600 billion per year
    Opportunity cost of complying with regulations is as high as $270 billion
  • 25. Antitrust Policy
  • 26. Antitrust Policy
    To promote business competitions
    US congress enacted 4 key antitrust laws
    The most important is the Sherman Act.
  • 27. Antitrust Policy
    Sherman Antitrust Act of 1890
    Section 1
    Every contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade or commerce among the several states, or with foreign nations, is hereby declared to be illegal
  • 28. Antitrust Policy
    Sherman Antitrust Act of 1890
    Section 2
    Every person who shall monopolize, or attempt to monopolize, or combine or conspire with any other person or persons to monopolize any part of the trade or commerce …. shall be guilty of a misdemeanor
  • 29. Antitrust Policy
    Clayton Act of 1914
    Passed to remove the vagueness of the Sherman Act
    Robinson-Patman Act of 1936
    Amended Section 2 of the Clayton Act
    Designed to protect independent retailers and wholesalers from “unfair discrimination” by chain stores
  • 30. Antitrust Policy
    Microsoft’s 2001 antitrust lawsuit
  • 31. Antitrust Policy
    Exemptions from antitrust laws (US)
    All labor unions
    Public utilities
    Professional baseball
    Cooperative activities among US exporters
    Hospitals
    Public transit and water systems
    Supplier of military equipment
    Joint publishing arrangement in a single city by two or more newspaper
  • 32. International Antitrust Policy
    More firms across the borders are merging
    The European Union put restrictions against merging of any business that would enhance the market dominance of one firm
  • 33. Antitrust Enforcement
  • 34. Antitrust Enforcement
    Monopolization
    The possession of monopoly power in relevant market
    The willful acquisition or maintenance of that power, as distinguished from growth or development as a consequence of a superior product, business acumen, or historical accident
  • 35. Monopoly power and the Relevant market
    Monopoly is not just company size
    Usually look at percentage of share in the relevant market
    A firm is usually considered to have monopoly power if share > 70%
    Ex:
    Being the “only” liquor store on a popular resort town (loosely)
  • 36. Monopoly power and the Relevant market
    Relevant market consists of 2 elements
    Product market
    All items produced by different firms in the market have identical attributes, this includes substitutable products
    Geographic market
    Geographic boundaries include all area that items are sold
  • 37. Antitrust Enforcement
    Product Versioning
    Selling a product with altered forms or functionalities to different groups of consumers
    Product Bundling
    Offering two or more products for sale as a set
  • 38. Product Versioning
    Software version
    Professional and Standard edition?
  • 39. Product Bundling
    Microsoft Windows and Internet Browser software
  • 40. Issues in Enforcing antitrust
    Enforcement is through Supreme Court interpretations
    Authorities use market share test and determine “relevant market”
  • 41. International Trade
  • 42. Basics of trade – what you should know
    The principle of comparative advantage
    The effect of tariffs
    The effect of quotas
    How restrictions on trade decrease the wealth of a country
    Know who gains and who loses from trade restrictions
  • 43. Comparative advantage
    Comparative advantage refers to the lowest opportunity cost to produce a product
    The ability to produce a good or service at a lower opportunity cost compared with producers
  • 44. Comparative Advantage
    Food (tons)
    Country A’s Production Possibility Frontier
    Machines
  • 45. Comparative advantage
    Table indicates the unit cost of product.
    Italy – a unit of Wine costs 2 hours of work and a unit of computer costs 8 hours of work
    USA – a unit of Wine costs 2 hours of work and a unit of computer costs 1 hour of work
    The USA has Absolute Advantage in producing both Wine and Computer. Should the US trade with Italy?
  • 46. Comparative advantage
    Why not produce both computer and Wine in the US??
  • 47. Comparative advantage
    Let’s look at computer perspective:
    • To make 1 wine, the US sacrifices 2 computers. While Italy sacrifices 0.25 computer to make 1 wine.
  • Comparative advantage
    Let’s look at wine perspective:
    • To make 1 computer, the US sacrifices 0.5 wine. While Italy sacrifices 4 wines to make 1 computer.
  • Comparative Advantage
    To make 1 wine, the US sacrifices 2 computers. While Italy sacrifices 0.25 computer to make 1 wine.
    To make 1 computer, the US sacrifices 0.5 wine. While Italy sacrifices 4 wines to make 1 computer.
  • 48. Comparative advantage