Académique Documents
Professionnel Documents
Culture Documents
Structures
The Degree of Competition
• Classifying markets
– number of firms
– freedom of entry to industry
– nature of product
– nature of demand curve
• The four market structures
– perfect competition
– monopoly
– monopolistic competition
– oligopoly
Features of the four market structures
Features of the four market structures
Features of the four market structures
Features of the four market structures
Features of the four market structures
Features of the four market structures
The Degree of Competition
• Classifying markets
– number of firms
– freedom of entry to industry
– nature of product
– nature of demand curve
• The four market structures
– perfect competition
– monopoly
– monopolistic competition
– oligopoly
• Structure → conduct → performance
Perfect Competition
• Assumptions
– firms are price takers
– freedom of entry
– identical products
– perfect knowledge
• Short-run equilibrium of the firm
– price, output and profit
Short-run equilibrium of industry and firm under
perfect competition
P £
S MC AC
D = AR
Pe AR
AC = MR
D
O O Qe
Q (millions) Q (thousands)
P £ AC
S MC
AC
D1 = AR1
P1 AR1
= MR1
D
O O Qe
Q (millions) Q (thousands)
• Assumptions
– firms are price takers
– freedom of entry
– identical products
– perfect knowledge
• Short-run equilibrium of the firm
– price, output and profit
• The short-run supply curve of the firm
Deriving the short-run supply curve
P S £
MC = S
a D1 = MR1
P1
b D2 = MR2
P2
c D3 = MR3
P3
D1
D2
D3
O O
Q (millions) Q (thousands)
– LRAC = AC = MC = MR = AR
Long-run equilibrium under perfect competition
Profits return
Supernormal
New firms enter to normalprofits
P £
S1
Se
LRAC
P1 AR1 D1
PL ARL DL
D
O O QL
Q (millions) Q (thousands)
LRAC
DL
AR = MR
O Q
Perfect Competition
• Defining monopoly
• Barriers to entry
– economies of scale
– economies of scope
– product differentiation and brand loyalty
– lower costs for an established firm
– ownership/control of key factors
– ownership/control over outlets
– legal protection
– mergers and takeovers
– aggressive tactics
– intimidation
Monopoly
MR
O Qm Q
Monopoly
AC
AR
AC
AR
MR
O Qm Q
Monopoly
AR
AC
AR
MR
O Qm Q
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
Equilibrium of industry under perfect competition and
monopoly: with the same MC curve
£ MC
Monopoly
P1
AR = D
MR
O Q1 Q
Equilibrium of industry under perfect competition and
monopoly: with the same MC curve
£ MC ( = supply under
perfect competition)
Comparison with
P1 Perfect competition
P2
AR = D
MR
O Q1 Q2 Q
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
– lack of incentive to innovate
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
– lack of incentive to innovate
– X-inefficiency
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
– lack of incentive to innovate
– X-inefficiency
• Advantages of monopoly
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
– lack of incentive to innovate
– X-inefficiency
• Advantages of monopoly
– economies of scale
Equilibrium of industry under perfect competition and
monopoly: with different MC curves
£
MCmonopoly
P1
AR = D
MR
O Q1 Q
Equilibrium of industry under perfect competition and
monopoly: with different MC curves
£ MC ( = supply)perfect competition
MCmonopoly
P2
P1
x
P3
AR = D
MR
O Q2 Q1 Q3 Q
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
– lack of incentive to innovate
– X-inefficiency
• Advantages of monopoly
– economies of scale
– profits can be used for investment
Monopoly
• Disadvantages of monopoly
– high prices / low output: short run
– high prices / low output: long run
– lack of incentive to innovate
– X-inefficiency
• Advantages of monopoly
– economies of scale
– profits can be used for investment
– high profits encourage risk taking
Monopoly
• Contestable markets
– importance of potential competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
Short-run equilibrium of the firm
under monopolistic competition
£ MC
AC
Ps
ACs
AR = D
MR
O Qs Q
Monopolistic Competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
– long run
Long-run equilibrium of the firm
under monopolistic competition
£
LRMC
LRAC
PL
ARL = DL
MRL
O QL Q
Monopolistic Competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
– long run
– underutilisation of capacity in the long run
Long run equilibrium of the firm under perfect and
monopolistic competition
£
LRAC
P1
P2
DL under perfect
competition
DL under monopolistic
competition
O Q1 Q2 Q
Monopolistic Competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
– long run
– underutilisation of capacity in the long run
• Non-price competition
Monopolistic Competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
– long run
– underutilisation of capacity in the long run
• Non-price competition
• The public interest
Monopolistic Competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
– long run
– underutilisation of capacity in the long run
• Non-price competition
• The public interest
– comparison with perfect competition
Monopolistic Competition
• Assumptions of monopolistic
competition
• Equilibrium of the firm
– short run
– long run
– underutilisation of capacity in the long run
• Non-price competition
• The public interest
– comparison with perfect competition
– comparison with monopoly
Oligopoly
• Key features of oligopoly
– barriers to entry
– interdependence of firms
Industry D = AR
O Q
Profit-maximising cartel
£
Industry MC
P1
Industry D = AR
Industry MR
O Q1 Q
Oligopoly
• Key features of oligopoly
– barriers to entry
– interdependence of firms
Iraq invades
Revolution Kuwait
25 World-wide
in Iran recovery
0
70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02
$ per barrel
Oil prices Actual price
Cost in 1973 prices
35
Iraq invades Impending
Iran OPEC’s first war
30 quotas with Iraq
Iraq invades
Revolution Kuwait
25 World-wide
in Iran recovery
0
70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 02
Oligopoly
• Tacit collusion
– price leadership: dominant firm
Price leader aiming to maximise profits for a given market share
£
Assume constant
market share
for leader
AR = D market
AR = D leader
MR leader
O Q
Price leader aiming to maximise profits for a given market share
£
MC
l t
PL
AR = D market
AR = D leader
MR leader
O QL QT Q
Oligopoly
• Tacit collusion
– price leadership: dominant firm
– rules of thumb
Oligopoly
• Factors favouring collusion
– Few firms
– Open with each other
– Similar production methods and average
costs
– Similar products
– Dominant firm
– Significant entry barriers
– Stable market
– No government measures to curb collusion
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
Profits for firms A and B at different prices
X’s price
£2.00 £1.80
A B
£2.00 £10m each £5m for Y
£12m for X
Y’s price
C D
£1.80 £12m for Y £8m each
£5m for X
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
• Nash equilibrium
Profits for firms A and B at different prices
X’s price
£2.00 £1.80
A B
£2.00 £10m each £5m for Y
£12m for X
Y’s price
C D
£1.80 £12m for Y £8m each
£5m for X
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
• Nash equilibrium
• the prisoners’ dilemma
The prisoners' dilemma
Amanda's alternatives
Not confess Confess
Not
A B Nigel gets
Each gets 10 years
confess Amanda gets
1 year
Nigel's 3 months
alternatives C Nigel gets D
3 months Each gets
Confess 3 years
Amanda gets
10 years
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
• the prisoners’ dilemma
• Nash equilibrium
– more complex non-dominant strategy
games
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
• the prisoners’ dilemma
• Nash equilibrium
– more complex non-dominant strategy
games
– the importance of threats and promises
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
• the prisoners’ dilemma
• Nash equilibrium
– more complex non-dominant strategy
games
– the importance of threats and promises
– the importance of timing of decisions
Oligopoly
• The breakdown of collusion
• Non-collusive oligopoly: game theory
– alternative strategies
• maximax and maximin
– simple dominant strategy games
• the prisoners’ dilemma
• Nash equilibrium
– more complex non-dominant strategy
games
– the importance of threats and promises
– the importance of timing of decisions
• decision trees
A decision tree
r Boeing –£10m
(1)
ate Airbus –£10m
Airbus 00 se
5
decides
B1 400
sea
r ter Boeing +£30m (2)
a te
se
Airbus +£50m
0
50
Boeing
decides A 40
0s Boeing +£50m
ea ate
r (3)
te s e Airbus +£30m
r 5 0 0
B2 400
sea
Airbus ter
decides Boeing –£10m
Airbus –£10m
(4)
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
Kinked demand for a firm under oligopoly
£
Current price
and quantity
give one point
on demand curve
P1
O Q1 Q
Kinked demand for a firm under oligopoly
£
D
P1
D
O Q1 Q
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
– stable prices
Stable price under conditions of a kinked demand curve
£
MC2
P1 MC1
a
D = AR
b
O Q1 Q
MR
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
– stable prices
– limitations of the model
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
– stable prices
– limitations of the model
• Oligopoly and the public interest
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
– stable prices
– limitations of the model
• Oligopoly and the public interest
– advantages
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
– stable prices
– limitations of the model
• Oligopoly and the public interest
– advantages
– disadvantages
Oligopoly
• Non-collusive oligopoly: the kinked
demand curve theory
– assumptions of the model
– stable prices
– limitations of the model
• Oligopoly and the public interest
– advantages
– disadvantages
– difficulties in drawing general conclusions
Price Discrimination
– Second degree
Revenue from
a single price
P1
O 200 Q
Third-degree price discrimination
P
Increased revenue
from price
discrimination
A higher discriminatory
P2 price is now introduced
P1
O 150 200 Q
Price Discrimination
– Second degree
– Second degree
DX
O O O
MRX
(a) Market X
Profit-maximising output under
third degree price discrimination
DY
DX MRY
O O O
MRX
DY
DX MRY MRT
O O O
MRX
MC
DY
DX MRY MRT
O O O
MRX
MC
DY
DX MRY MRT
O O O 3000
MRX
MC
5
DY
DX MRY MRT
O O O 3000
MRX
MC
5
DY
DX MRY MRT
O 1000 O O 3000
MRX
MC
5
DY
DX MRY MRT
O 1000 O 2000 O 3000
MRX
MC
5
DY
DX MRY MRT
O 1000 O 2000 O 3000
MRX
MC
9
7
5
DY
DX MRY MRT
O 1000 O 2000 O 3000
MRX
– competition
Price Discrimination
– competition
– profits