The document discusses industrial economics and focuses on the behavior of firms in imperfectly competitive markets. It covers various market structures like monopoly, oligopoly, and monopolistic competition. The main topics covered include the relationship between market structure, conduct, and performance; the welfare effects of market power; strategies used by dominant firms; and the determinants of market structure.

1. Industrial Economics: Introduction
Industrial economics is
concerned with the
behavior of firms in
industries:
• the policies of firms
toward rivals and toward
customers  prices,
advertising, R&D
• firms in industries that
are competitive as well as
less than competitive

2. Industrial Economics: Introduction
 theory of the firm;
price theory: focus on
simple market structures
(competition and
monopoly)
 industrial economics:
oligopoly; the real world
 industrial economics:
public policy toward
business; role of
government

3. SCP: Structure-Conduct-Performance
Structure  Conduct  Performance
Market structure determines the behavior of the
firms in the market, and the behavior of the firms
detrmines the various aspects of market
performance

4. Structure
• number and size distribution of sellers
• number and size distribution of buyers
• product differentiation
• entry conditions

5. Conduct
• collusion
• strategic behavior
• advertising
• research and development

6. Performance
• profitability
• efficiency
• progressiveness

7. Interactive SCP framework
progressiveness
profitability
technology
structure
strategy perfomance
demand conduct
sales effort

8. Interactive SCP framework
technology
structure
conduct
Freedom
of entry
perfomance

9. The welfare consequences of market power
The consequences of market power
The ability of firms to influence the price or
the product they sell
 the economics of compettive market
 monopoly
 welfare

10. Competition
Formal assumption of the competitive model:
• many small buyers and sellers
• standardized product
• free and easy entry and exit
• complete and perfect knowledge

11. Inputs and costs: fixed and variable
• fixed inputs  past investment decission
• variable inputs  level of output
• fixed costs  services of fixed factors
• variable costs  variable factors of production
 variable factor: labor
 fixed factor: capital
opportunity cost, rental cost of capital services
 normal profit: (average cost-AVC)
 economic profit: (price-average cost)

12. Costs curves: typical firm & market
AC: average cost
AVC: average variable cost
MC: marginal cost
S1, S1 : short-run supply curves
D: demand curve
(qSD , pSD): shutdown point  minimizes losses
(qLR , pLR): long-run equilibrium for a typical firm
(QLR , PLR): market long-run equilibrium

13. Cost curves  under competition
The firm’s supply decission: to maximize profit
 Firm is a price taker  choose the ouput that MC=P1  q1
typical firm market
price MC
AC S1
P1 AVC S2
PLR
PSD D
qSD qLR q1 firm Q1 QLR market
output output

14. Short-run and Long-run equilibrium: Competition
S1 : short-run supply curves
D: demand curve
 P1 : initial short-run equilibrium price
 Q1 : market output in the short-run
 q1 : firm’s output in the short-run equilibrium
Firm’s profit  economic profit  attract new firms
S1  S2
 PLR : long-run equilibrium price
 QLR : market output in the long-run
 qLR : firm’s output in the long-run equilibrium

15. Economies and diseconomies of scale
QMES : minimum efficient scale outpout
price
MC
Constant return to scale
AC
AC
MC
0
QMES output

16. Monopoly
 only one supplier
 entry is blockaded
 price maker
price
A
P1 C
P2 E
0
Q1 Q2 F quantity

17. Monopoly: output decission
MC=MR
 maximize profit
price
Pm MC
MR D
0
q1 Qm F quantity

18. Welfare consequences of market power
price
P1
Consumers’ surplus
P2
P3
D
0
1 2 3 F quantity

19. Welfare consequences of market power
Monopoly restrict output and raise price,
compared with the price of competitive industry
price
Income transfer to monopolist
Pm B
Deadweight welfare loss
E c=marginal cost
Pc
G
Spending shifted to other industries
0
Qm Qc F quantity

20. The Dominant Firm (DF)
• Many industries supplied by a large firm and a fringe of smaller rivals
(including new entrants)
• Many of these DFs have maintained their leadership positions for
generations
• Difference between DF and monopoly  dominant firm must take into
account the reaction of its fringe competitors;
If monopolist raises price  some customers leave the market
If DF raises  some customers begin to buy froms its rivals
Monopolist How much it will produce, what it will charge,
implications of its market power
DF  + How a DF acquires its position and how it keeps it

21. Behavior of DF: A Static Limit Price Model
DF can keep the price so low that entry by new firms or expansions
by existing fringe firms is not profitable
The entrant’s output decission
P
Entrant’s profit
market demand curve
qd Residual demand curve
Pe
MR
ACe
AC entrant
0 MC entrant
Q
qe Residual marginal revenue curve

22. Behavior of DF: A Static Limit Price Model
The more the DF’s output,
the closer will the residual
demand curve to the origin
Limit output (qL) and limit price (PL)  below entrant’s AC
P
market demand curve
qL Residual demand curve
PL
MR
AC entrant
0 MC entrant
Q
Residual marginal revenue curve

23. A natural monopoly  government regulation
If the market is very small
and entry costs are very
high  it will not
Blockaded entry profitable for new entrant
P
market demand curve
Pm
AC entrant
MC df
0
Q
qm

24. Dynamic limit pricing
The static model ignores the fact that entry takes time  trade off
between current and future profit
 the difference between the limit profit if it sets a low price
and the larger short run profit if it sets a higher price
 the rate at which DF loses market share (profit) to the fringe if the
fringe begins to expand
 the discount rate

25. Strategy to achieve and maintain dominance
Dominance is a power relation between two agents in which
the dominator restricts the action of the dominated
DF’s weapon: its output level which influence the price
DF is giving up the profit to maintain position
STRATEGIC BEHAVIOR:
 MERGER
 DIRECT COST-BASED STRATEGIES: increasing rival’s costs
 TECHNOLOGY-BASED STRATEGIES: capacity expansion, vertical
integration
 MARKETING-BASED STRATEGIES: product differentiation, access
to consumers

26. Summary
Firms may achieve a dominant position
 By superior competitive
performance
 By merger
 By strategic behavior design to
exclude competitors and
prevent competition on the
merits
PUBLIC POLICY
toward
DOMINANT FIRMS

27. Oligopoly: The recognition of interdependence
 Competititve market  each firm is so small  price taker
 Monopolist has no rival  price maker
 Dominant firm
 does consider the reaction of fringe firms  one sided
recognition
 no recognition  if entry cost is low  give up mkt share
 fringe firms approach the size of DF  OLIGOPOLY
supplied by few firms,
which recognize their mutual interdependence

28. Oligopoly: measuring fewness
 percentage of industry sales  the largest 4, the largest 10
 when the largest 4  40% of supply
 each must be aware of the others
 OLIGOPOLY
concentration ratio  summary index of fewness
 the Herfindahl Index
 combining information about market shares of all
firms in the market

29. Oligopoly: the decision making
 decide how much to produce
 let the market determine the price
 sunk cost
set the price
 sell whatever quantity demanded at that price
 the technology allows rapid changes in the rate of output

30. Oligopoly: the quantity-setting
Cournot Duopoly
 a market supplied by
two identical firms
P
market demand curve
Residual demand curve
q2
MC = AC
Q
Residual marginal
q1(q2) revenue curve

31. Oligopoly: the quantity-setting
The ouput each firm will choose
depends on what it thinks the other firm will do
Firm’s 2 output
qc
Firm’s 1 reaction curve
qm
A
q2,A
Firm’s 2 reaction curve
q2’,B B
Firm’s 1 output
q1,A qm qc

32. Oligopoly: price-setting
 homogenous product
 differentiated product
 public policy toward oligopoly
 conspiracy to monopolize
COLLUSION

33. The determinants of market structure
3 faktor penting dalam struktur pasar
 entry condition
 economies of scale
 product differentiation
 absolute cost advantages of existing firms

34. The determinants of market
If there is economies of scale
 average cost falls as output increases
for constant MC = c
C (q) = F = cq
AC(q) = c + (F/q)
Function coefficient: economies of scale
FC = AC/MC = (c+(F/q)/c = 1 + F/cq
Economies of scale becomes more important as fixed
cost increases

35. Short-run equilibrium, n-firm Cournot oligopoly
a
market demand curve: P=a-bQ
Residual demand curve
PSR
AC=(F/q)+c
ACSR
MC = c
Q
qSR S
Residual marginal revenue

36. Short-run equilibrium, n-firm Cournot oligopoly
Firm i’s MR
 Firm i’s revenue will change as firm i changes its output
MRi = P + qi( ∆Pi/ ∆qi) = P-bqi = a – bQ – bqi
maximizing profit by picking the output level that
MR=MC atau a – bQ – bqi = c atau Q + qi = (a-c)/b
a natural measure of market size = S = (a-c)/b
All firms produce the same output in equilibrium: Q=Nq
 qSR = S/(n+1)
 PSR = c + (bS/(n+1))

37. Long-run equilibrium, Cournot oligopoly
Residual demand curve
a
market demand curve: P=a-bQ
AC=(F/q)+c
PLR = ACLR
MC = c
Q
qLR S

38. Number of firms
In SR equilibrium, each firm earns a profit:
ΠSR = b (S/(N+1))2 – F
the LR equilibrium number of firms  SR firm’s profit = 0
nLR= (S/√(F/b)) – 1
number of firms ↓ ∼ market concentration ↑ ∼ fixed cost ↑
 The market ought to be more concentrated in the long
run, the greater the economies of large scale production

39. The determinants of market
Differentiation
 Advertising
 Efforts of sales forces
 Design changes
Oligopolist behavior  market power
If output is restricted, price is rised above MC  rivals
will come in, expand capacity, and force price down to
a competititve level
Entrants will not come unless  can make profit
 Minimum efficient scale (MES)

40. The determinants of firm structure
The separation of ownership and control in modern corporation 
firms may be managed to pursue the interests of
managers rather than owners
Firms may expand
 horizontally, ……………… market power
 vertically, or ……………… market imperfection … costs
 into unrelated markets …. conglomerate mergers … risk