3. Business economics
•
This unit develops the content of units 1 and
examines how the pricing of, and nature of
competition between, firms is affected by the
number and size of market participants. At the
end of this unit, students should be able to
analyse the pricing and output decisions of
firms in different contexts. They should also be
capable of making an appraisal of government
intervention aimed at promoting competitive
markets.
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tutor2u™
4. 3.9 Behaviour of firms
• Students should be able to:
– Compare different market structures with
reference to economic efficiency and
performance
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tutor2u™
5. 3.9 Behaviour of firms
• Background Reading:
– Phil Allan Unit 3
p. ?
– Nutter
p. ?
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tutor2u™
6. What is market structure?
•
Market structures are the organisational and
other characteristics of a market that influence
how a firm behaves, especially in terms of
setting price and determining output.
•
We tend to focus on those characteristics of a
market which affect the degree of competition
between firms and their pricing decisions
•
Traditionally we emphasise:
1. The number and size distribution of buyers and
sellers
2. The existence or absence of barriers to entry and
exit and number of potential new entrants
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tutor2u™
7. Structural characteristics of a market
• The number of firms and extent of overseas competition
• The market share of the largest firms (concentration ratio)
• The nature of costs in the short and long run
• The degree to which an industry is vertically integrated up
and down the supply chain
• The extent of product differentiation / homogeneity
(similarity)
• The price and cross price elasticity of demand for different
products within the market
• The number and size of buyers of the industry’s product
• The turnover of customers (“market churn”) – affected by
brand loyalty and the effects of advertising and marketing
• Access to market information
• Level of inter-dependence of firms actions
Adapted from
tutor2u™
8. 3.9 Market structures - types
• Types vary from NO competition to PERFECT
COMPETITION
– Pure Monopoly – one firm
– Duopoly – two firms
– Oligopoly – a few firms
– Monopolistic Competition – many firms with some
individual advantages
– Perfect Competition – many very similar firms
Adapted from
tutor2u™
9. 3.9 Market structures - types
Highly Competitive
High Degree of Market Power
Perfect Competition Monopolistic Competition Oligopoly
Supermarkets
Farming
Restaurants
Banks
Stocks
Small Builders
Electrical Goods
Currencies
Solicitors
Monopoly
Gas
Water
Electricity
Telecommunications
Adapted from
tutor2u™
10. 3.9 Market structures - types
• PJV’s thinking
– Monopolistic Competition is often called Imperfect
Competition, whereas grammatically anything that
is not perfect is imperfect including monopoly
– Both a partially open door and a fully open door
are NOT shut.
– Q: When is a door, not a door?
– Ans: When it is a piece of fruit cake!
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tutor2u™
13. The conduct / behaviour of firms
• How does market structure affect pricing, output and other
decisions of businesses within the market
• Are there dominant firms?
• Is there evidence of anti-competitive behaviour?
– Collusive pricing agreements
– Predatory pricing?
– Vertical restraint?
• How important is non-price competition?
• Is there interdependence between firms
• Do businesses behave strategically to retain profits by
deterring the entry of new competitors in the long run?
Adapted from
tutor2u™
14. Performance indicators
•
Trends in real price levels over time
•
Size of business profits – evidence of excess profits?
•
How much spending on research and development – does
it lead to a fast pace of technological advance and
innovation?
•
How much spending on human capital, does it lead to rising
labour productivity in the industry?
•
Does the conduct of firms give rise to efficient outcomes?
1. Allocative efficiency
2. Productive efficiency
3. Dynamic efficiency
Adapted from
tutor2u™
15. Has the telecoms industry achieved efficiency?
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16. The usual causal view
Market
structure
Conduct of
Firms
Performance
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17. The feedback critique (1)
The conduct of firms in a market can
affect market structure – e.g. merger
and takeover activity
Market
structure
Conduct of
Firms
Performance
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tutor2u™
19. The feedback critique (2)
The actual performance of firms in the market affects
market structure – e.g. rising dominance of best performing
businesses – examples: pharmaceuticals, food retailing
Market
structure
Conduct of
Firms
Performance
Adapted from
tutor2u™
20. The feedback critique
• Performance can affect structure
– Top performing firms will gain market share at
expense of rivals
– This gives them more market power
– Fine line between market dominance and economic
efficiency?
• Market conduct affects structure
– E.g. decisions about research and development and
marketing
• Strategic behaviour of firms especially in oligopoly makes it
difficult to rely on the structure conduct performance model
• The theory of contestable markets is a development of this
approach and stresses the dynamic nature of market
competition especially when a market is open
Adapted from
tutor2u™
