Successfully reported this slideshow.
We use your LinkedIn profile and activity data to personalize ads and to show you more relevant ads. You can change your ad preferences anytime.

Class mkt structures ii


Published on

  • Be the first to comment

  • Be the first to like this

Class mkt structures ii

  1. 1. Market Structures- Imperfect Competition
  2. 2. Monopolistic Competition <ul><li>Assumptions of monopolistic competition </li></ul><ul><ul><li>large number of firms </li></ul></ul><ul><ul><ul><li>independence of firms </li></ul></ul></ul><ul><ul><li>freedom of entry </li></ul></ul><ul><ul><li>differentiated product </li></ul></ul><ul><ul><li>downward-sloping demand curve </li></ul></ul><ul><ul><ul><li>elasticity depends on degree of product differentiation </li></ul></ul></ul>
  3. 3. <ul><li>Crest toothpaste, for example, is different from Colgate, Aim, and a dozen other toothpastes in terms of partly flavor, partly consistency, and partly reputation-the consumer's image (correct or incorrect) of the relative decay-preventing efficacy of Crest. As a result, some consumers (but not all) will pay more for Crest. </li></ul><ul><li>Procter & Gamble, the sole producer of Crest, has monopoly power. But its monopoly power is limited because consumers can easily substitute other brands for Crest if its price rises. </li></ul><ul><li>Consumers who prefer Crest will pay more for it, but many may not. The typical Crest user might pay 25 or even 50 cents a tube more, but probably not a dollar more. </li></ul><ul><li>For most consumers, toothpaste is toothpaste, and the differences among brands are small. </li></ul><ul><li>Therefore, the demand curve for Crest toothpaste, though downward sloping, is fairly elastic. </li></ul><ul><li>Because of its limited monopoly power, Procter & Gamble will charge a price higher, but not much higher, than marginal cost. </li></ul><ul><li>The situation is similar for Tide detergent or Scott paper towels. </li></ul>
  4. 5. Characteristics <ul><li>Product Differentiation </li></ul><ul><ul><li>The firm, by changing product quality, style, location, and service (among many other factors), and by advertising, can alter the demand for its products. </li></ul></ul><ul><ul><li>It can increase demand by drawing customers from rivals if it can convince consumers that its products provide more value. </li></ul></ul><ul><li>Free entry and exit </li></ul>
  5. 6. Monopolistic Competition <ul><li>Equilibrium of the firm </li></ul><ul><ul><li>short run </li></ul></ul><ul><ul><ul><li>output where MC = MR </li></ul></ul></ul><ul><ul><ul><li>level of supernormal profit depends on demand </li></ul></ul></ul><ul><ul><ul><ul><li>position of demand curve </li></ul></ul></ul></ul><ul><ul><ul><ul><li>elasticity of demand curve </li></ul></ul></ul></ul>
  6. 7. <ul><li>Firms in competitive price-searcher markets can make either economic profits or losses in the short run. </li></ul><ul><li>But, after long-run adjustments occur, only a normal profit (that is, zero economic profit) will be possible because of the competitive conditions. </li></ul>
  7. 8. Monopolistic Competition <ul><li>Equilibrium of the firm </li></ul><ul><ul><li>short run </li></ul></ul><ul><ul><ul><li>output where MC = MR </li></ul></ul></ul><ul><ul><ul><li>level of supernormal profit depends on demand </li></ul></ul></ul><ul><ul><ul><ul><li>position of demand curve </li></ul></ul></ul></ul><ul><ul><ul><ul><li>elasticity of demand curve </li></ul></ul></ul></ul><ul><ul><li>long run </li></ul></ul><ul><ul><ul><li>all supernormal profits competed away </li></ul></ul></ul>
  8. 9. Monopolistic Competition <ul><li>Equilibrium of the firm </li></ul><ul><ul><li>short run </li></ul></ul><ul><ul><ul><li>output where MC = MR </li></ul></ul></ul><ul><ul><ul><li>level of supernormal profit depends on demand </li></ul></ul></ul><ul><ul><ul><ul><li>position of demand curve </li></ul></ul></ul></ul><ul><ul><ul><ul><li>elasticity of demand curve </li></ul></ul></ul></ul><ul><ul><li>long run </li></ul></ul><ul><ul><ul><li>all supernormal profits competed away </li></ul></ul></ul><ul><ul><ul><li>underutilisation of capacity </li></ul></ul></ul>
  9. 10. Monopolistic Competition and Business Failure <ul><li>Creative destruction </li></ul><ul><ul><li>In early 2001, Lucent, a high-technology firm, announced that its sales had fallen 28 percent, while rival Nortel Networks experienced a 34 percent increase. Lucent’s failure to adopt a new generation of optical-technology production quickly forced it to lay off 16,000 of its employees. </li></ul></ul><ul><ul><li>In retailing, J. C. Penney announced it would shut forty-seven stores eleven months after it had closed forty-five others and Kmart filed for bankruptcy. Meanwhile, Wal-Mart & Costco were rapidly expanding across the United States. </li></ul></ul>
  10. 11. <ul><li>Business failures do not destroy either the assets owned by the firm or the talents of its workers. Instead, they release these resources for more productive use by other firms. </li></ul>
  11. 12. Contestable markets <ul><li>A market in which the costs of entry and exit are low, so a firm risks little by entering. </li></ul><ul><li>Efficient production and zero economic profits should prevail in a contestable market. </li></ul><ul><li>Examples include airline, transport, railways etc. </li></ul>
  12. 13. Oligopoly <ul><li>Key features of oligopoly </li></ul><ul><ul><li>barriers to entry </li></ul></ul><ul><ul><li>interdependence of firms </li></ul></ul><ul><ul><ul><li>the supply decisions of one firm will significantly influence the demand, price, and profit of rivals </li></ul></ul></ul><ul><ul><li>incentives to compete versus incentives to collude </li></ul></ul>
  13. 14. High entry barriers <ul><li>Economies of Scale </li></ul><ul><li>Government regulations </li></ul><ul><ul><li>Licensing </li></ul></ul><ul><li>Patents and IPRs </li></ul><ul><li>Access to resources </li></ul>
  14. 15. Oligopoly <ul><li>Tacit collusion </li></ul><ul><ul><li>price leadership: dominant firm </li></ul></ul><ul><ul><li>price leadership: barometric </li></ul></ul><ul><ul><li>other forms of tacit collusion: rules of thumb </li></ul></ul><ul><ul><ul><li>average cost pricing </li></ul></ul></ul><ul><ul><ul><li>price benchmarks </li></ul></ul></ul><ul><li>Collusion and the law </li></ul><ul><li>The breakdown of collusion </li></ul>
  15. 16. Collusions <ul><li>Agreement among firms to avoid various competitive practices, particularly price reductions. </li></ul><ul><li>It may involve either formal agreements or merely tacit recognition that competitive practices will be self defeating in the long run. </li></ul>
  16. 17. Cartels <ul><li>An organization of sellers designed to coordinate supply decisions so that the joint profits of the members will be maximized. </li></ul><ul><li>A cartel will seek to create a monopoly in the market. </li></ul>
  17. 18. Profit-maximising cartel £ Q O Industry D  AR
  18. 19. Conditions for cartels <ul><li>Demand cannot be too elastic </li></ul><ul><li>Entry and expansion cannot be too easy </li></ul>
  19. 20. Problems of cartels <ul><li>Agreement on prices </li></ul><ul><li>Monitoring cheating on agreements </li></ul><ul><li>Punishment of cheaters </li></ul>
  20. 21. <ul><li>In oligopolistic industries, there are two conflicting tendencies. </li></ul><ul><li>An oligopolistic firm has a strong incentive to cooperate with its rivals so that joint profit can be maximized. </li></ul><ul><li>But it also has a strong incentive to cheat-to secretly expand output in order to increase its profit. </li></ul><ul><li>Oligopolistic agreements, therefore, tend to be unstable. This instability exists whether the cooperative behavior is formal, as in the case of a cartel, or informal. </li></ul>
  21. 22. Barriers to collusion <ul><li>Number of firms </li></ul><ul><li>Unstable demand conditions </li></ul><ul><li>Difficulties in detecting and eliminating price cuts by rivals </li></ul><ul><li>Low entry barriers </li></ul><ul><li>Anti trust action </li></ul>
  22. 23. Dominant Price leadership <ul><li>A situation in which one firm establishes itself as the industry leader and all other firms in the industry accept its pricing policy. </li></ul><ul><li>This leadership may result from the size and strength of the leading firm, from cost efficiency, or as a result of the ability of the leader to establish prices that produce satisfactory profits throughout the industry. </li></ul>
  23. 24. Barometric price leadership <ul><li>A situation in which one firm in an industry announces a price change in response to what it perceives as a change in industry supply and demand conditions and other firms respond by following the price change </li></ul>
  24. 25. Price stickiness <ul><li>Prices are altered infrequently even if cost and market conditions appear to justify either a price increase or a price fall. </li></ul>
  25. 27. Kinked demand Curve <ul><li>A theory assuming that rival firms follow any decrease in price in order to maintain their respective market shares but refrain from following increases, allowing their market share to increase at the expense of the firm making the initial price increase </li></ul>
  26. 28. Oligopoly <ul><li>Non-collusive oligopoly: game theory </li></ul><ul><ul><li>alternative strategies </li></ul></ul><ul><ul><ul><li>maximax </li></ul></ul></ul><ul><ul><ul><li>maximin </li></ul></ul></ul><ul><ul><li>simple dominant strategy games </li></ul></ul>
  27. 29. The prisoners' dilemma Not confess Confess Not confess Confess Amanda's alternatives Nigel's alternatives A B C D Each gets 1 year Each gets 3 years Nigel gets 3 months Amanda gets 10 years Nigel gets 10 years Amanda gets 3 months
  28. 30. Profits for firms A and B at different prices X’s price Y’s price £10m each £8m each £12m for Y £5m for X £5m for Y £12m for X £2.00 £1.80 £2.00 £1.80 A B C D
  29. 31. Oligopoly <ul><li>Non-collusive oligopoly: game theory </li></ul><ul><ul><li>alternative strategies </li></ul></ul><ul><ul><ul><li>maximax </li></ul></ul></ul><ul><ul><ul><li>maximin </li></ul></ul></ul><ul><ul><li>simple dominant strategy games </li></ul></ul><ul><ul><ul><li>the prisoners’ dilemma </li></ul></ul></ul>
  30. 32. Boeing decides A decision tree A 500 seater 500 seater 500 seater 400 seater 400 seater 400 seater Boeing –£10m Airbus –£10m (1) Boeing +£30m Airbus +£50m (2) Boeing +£50m Airbus +£30m (3) Boeing –£10m Airbus –£10m (4) Airbus decides B 2 Airbus decides B 1
  31. 33. Oligopoly <ul><li>Non-collusive oligopoly: game theory </li></ul><ul><ul><li>alternative strategies </li></ul></ul><ul><ul><ul><li>maximax </li></ul></ul></ul><ul><ul><ul><li>maximin </li></ul></ul></ul><ul><ul><li>simple dominant strategy games </li></ul></ul><ul><ul><ul><li>the prisoners’ dilemma </li></ul></ul></ul><ul><ul><li>non-dominant strategy games </li></ul></ul><ul><ul><li>Importance of threats and promises </li></ul></ul><ul><ul><li>Importance of timing </li></ul></ul><ul><ul><ul><li>decision trees </li></ul></ul></ul><ul><ul><li>usefulness of game theory </li></ul></ul><ul><ul><ul><li>changing strategies over time </li></ul></ul></ul>
  32. 34. Oligopoly <ul><li>Oligopoly and the consumer </li></ul><ul><ul><li>disadvantages </li></ul></ul><ul><ul><ul><li>worse if there is extensive collusion </li></ul></ul></ul><ul><ul><li>advantages </li></ul></ul><ul><ul><ul><li>countervailing power </li></ul></ul></ul><ul><ul><ul><li>supernormal profits may allow higher R&D </li></ul></ul></ul><ul><ul><ul><li>greater choice for consumers </li></ul></ul></ul><ul><ul><li>difficulties in drawing general conclusions </li></ul></ul><ul><li>Oligopoly and contestable markets </li></ul><ul><ul><li>importance of entry and exit costs </li></ul></ul>