Monopolistic Competition and Oligopoly - PowerPoint PPT Presentation

Loading...

PPT – Monopolistic Competition and Oligopoly PowerPoint presentation | free to view - id: b8cb8-ODVhO



Loading


The Adobe Flash plugin is needed to view this content

Get the plugin now

View by Category
About This Presentation
Title:

Monopolistic Competition and Oligopoly

Description:

The Makings of Monopolistic Competition. Two important characteristics ... This firm is making economic profits. A Monopolistically Competitive ... – PowerPoint PPT presentation

Number of Views:291
Avg rating:3.0/5.0
Slides: 85
Provided by: jeffc200
Category:

less

Write a Comment
User Comments (0)
Transcript and Presenter's Notes

Title: Monopolistic Competition and Oligopoly


1
Chapter 12
  • Monopolistic Competition and Oligopoly

2
Topics to be Discussed
  • Monopolistic Competition
  • Oligopoly
  • Price Competition
  • Competition Versus Collusion The Prisoners
    Dilemma

3
Topics to be Discussed
  • Implications of the Prisoners Dilemma for
    Oligopolistic Pricing
  • Cartels

4
Monopolistic Competition
  • Characteristics
  • 1) Many firms
  • 2) Free entry and exit
  • 3) Differentiated product

5
Monopolistic Competition
  • The amount of monopoly power depends on the
    degree of differentiation.
  • Examples of this very common market structure
    include
  • Toothpaste
  • Soap
  • Cold remedies

6
Monopolistic Competition
  • The Makings of Monopolistic Competition
  • Two important characteristics
  • Differentiated but highly substitutable products
  • Free entry and exit

7
A Monopolistically Competitive Firm in the Short
and Long Run
/Q
/Q
Short Run
Long Run
Quantity
Quantity
8
A Monopolistically Competitive Firm in the Short
and Long Run
  • Observations (short-run)
  • Downward sloping demand--differentiated product
  • Demand is relatively elastic--good substitutes
  • MR lt P
  • Profits are maximized when MR MC
  • This firm is making economic profits

9
A Monopolistically Competitive Firm in the Short
and Long Run
  • Observations (long-run)
  • Profits will attract new firms to the industry
    (no barriers to entry)
  • The old firms demand will decrease to DLR
  • Firms output and price will fall
  • Industry output will rise
  • No economic profit (P AC)
  • P gt MC -- some monopoly power

10
Comparison of Monopolistically Competitive Equilib
rium and Perfectly Competitive Equilibrium
Monopolistic Competition
Perfect Competition
/Q
/Q
Quantity
Quantity
11
Monopolistic Competition
  • Monopolistic Competition and Economic Efficiency
  • The monopoly power (differentiation) yields a
    higher price than perfect competition. If price
    was lowered to the point where MC D,
    consumer surplus would increase by the yellow
    triangle.

12
Monopolistic Competition
  • Monopolistic Competition and Economic Efficiency
  • With no economic profits in the long run, the
    firm is still not producing at minimum AC and
    excess capacity exists.

13
Monopolistic Competition
  • Questions
  • 1) If the market became competitive, what would
    happen to output and price?
  • 2) Should monopolistic competition be regulated?

14
Monopolistic Competition
  • Questions
  • 3) What is the degree of monopoly power?
  • 4) What is the benefit of product diversity?

15
Oligopoly
  • Characteristics
  • Small number of firms
  • Product differentiation may or may not exist
  • Barriers to entry

16
Oligopoly
  • Examples
  • Automobiles
  • Steel
  • Aluminum
  • Petrochemicals
  • Electrical equipment
  • Computers

17
Oligopoly
  • The barriers to entry are
  • Natural
  • Scale economies
  • Patents
  • Technology
  • Name recognition

18
Oligopoly
  • The barriers to entry are
  • Strategic action
  • Flooding the market
  • Controlling an essential input

19
Oligopoly
  • Management Challenges
  • Strategic actions
  • Rival behavior
  • Question
  • What are the possible rival responses to a 10
    price cut by Ford?

20
Oligopoly
  • Equilibrium in an Oligopolistic Market
  • In perfect competition, monopoly, and
    monopolistic competition the producers did not
    have to consider a rivals response when choosing
    output and price.
  • In oligopoly the producers must consider the
    response of competitors when choosing output and
    price.

21
Oligopoly
  • Equilibrium in an Oligopolistic Market
  • Defining Equilibrium
  • Firms doing the best they can and have no
    incentive to change their output or price
  • All firms assume competitors are taking rival
    decisions into account.

22
Oligopoly
  • Nash Equilibrium
  • Each firm is doing the best it can given what its
    competitors are doing.

23
Oligopoly
  • The Cournot Model
  • Duopoly
  • Two firms competing with each other
  • Homogenous good
  • The output of the other firm is assumed to be
    fixed

24
Firm 1s Output Decision
P1
What is the output of Firm 1 if Firm 2 produces
100 units?
Q1
25
Oligopoly
  • The Reaction Curve
  • A firms profit-maximizing output is a decreasing
    schedule of the expected output of Firm 2.

26
Reaction Curves and Cournot Equilibrium
Q1
100
75
50
25
Q2
25
50
75
100
27
Oligopoly
  • Questions
  • 1) If the firms are not producing at the
    Cournot equilibrium, will they adjust until the
    Cournot equilibrium is reached?
  • 2) When is it rational to assume that its
    competitors output is fixed?

28
Oligopoly
The Linear Demand Curve
  • An Example of the Cournot Equilibrium
  • Duopoly
  • Market demand is P 30 - Q where Q Q1 Q2
  • MC1 MC2 0

29
Oligopoly
The Linear Demand Curve
  • An Example of the Cournot Equilibrium
  • Firm 1s Reaction Curve

30
Oligopoly
The Linear Demand Curve
  • An Example of the Cournot Equilibrium

31
Oligopoly
The Linear Demand Curve
  • An Example of the Cournot Equilibrium

32
Duopoly Example
Q1
The demand curve is P 30 - Q and both firms
have 0 marginal cost.
Q2
33
Oligopoly
Profit Maximization with Collusion
34
Oligopoly
Profit Maximization with Collusion
  • Contract Curve
  • Q1 Q2 15
  • Shows all pairs of output Q1 and Q2 that
    maximizes total profits
  • Q1 Q2 7.5
  • Less output and higher profits than the Cournot
    equilibrium

35
Duopoly Example
Q1
30
Q2
30
36
First Mover Advantage-- The Stackelberg Model
  • Assumptions
  • One firm can set output first
  • MC 0
  • Market demand is P 30 - Q where Q total
    output
  • Firm 1 sets output first and Firm 2 then makes an
    output decision

37
First Mover Advantage-- The Stackelberg Model
  • Firm 1
  • Must consider the reaction of Firm 2
  • Firm 2
  • Takes Firm 1s output as fixed and therefore
    determines output with the Cournot reaction
    curve Q2 15 - 1/2Q1

38
First Mover Advantage-- The Stackelberg Model
  • Firm 1
  • Choose Q1 so that

39
First Mover Advantage-- The Stackelberg Model
  • Substituting Firm 2s Reaction Curve for Q2

40
First Mover Advantage-- The Stackelberg Model
  • Conclusion
  • Firm 1s output is twice as large as firm 2s
  • Firm 1s profit is twice as large as firm 2s
  • Questions
  • Why is it more profitable to be the first mover?
  • Which model (Cournot or Shackelberg) is more
    appropriate?

41
Price Competition
  • Competition in an oligopolistic industry may
    occur with price instead of output.
  • The Bertrand Model is used to illustrate price
    competition in an oligopolistic industry with
    homogenous goods.

42
Price Competition
Bertrand Model
  • Assumptions
  • Homogenous good
  • Market demand is P 30 - Q where
    Q Q1 Q2
  • MC 3 for both firms and MC1 MC2 3

43
Price Competition
Bertrand Model
  • Assumptions
  • The Cournot equilibrium
  • Assume the firms compete with price, not quantity.

44
Price Competition
Bertrand Model
  • How will consumers respond to a price
    differential? (Hint Consider homogeneity)
  • The Nash equilibrium
  • P MC P1 P2 3
  • Q 27 Q1 Q2 13.5

45
Price Competition
Bertrand Model
  • Why not charge a higher price to raise profits?
  • How does the Bertrand outcome compare to the
    Cournot outcome?
  • The Bertrand model demonstrates the importance of
    the strategic variable (price versus output).

46
Price Competition
Bertrand Model
  • Criticisms
  • When firms produce a homogenous good, it is more
    natural to compete by setting quantities rather
    than prices.
  • Even if the firms do set prices and choose the
    same price, what share of total sales will go to
    each one?
  • It may not be equally divided.

47
Price Competition
  • Price Competition with Differentiated Products
  • Market shares are now determined not just by
    prices, but by differences in the design,
    performance, and durability of each firms
    product.

48
Price Competition
Differentiated Products
  • Assumptions
  • Duopoly
  • FC 20
  • VC 0

49
Price Competition
Differentiated Products
  • Assumptions
  • Firm 1s demand is Q1 12 - 2P1 P2
  • Firm 2s demand is Q2 12 - 2P1 P1
  • P1 and P2 are prices firms 1 and 2 charge
    respectively
  • Q1 and Q2 are the resulting quantities they sell

50
Price Competition
Differentiated Products
  • Determining Prices and Output
  • Set prices at the same time

51
Price Competition
Differentiated Products
  • Determining Prices and Output
  • Firm 1 If P2 is fixed

52
Nash Equilibrium in Prices
P1
P2
53
Nash Equilibrium in Prices
  • Does the Stackelberg model prediction for first
    mover hold when price is the variable instead of
    quantity?
  • Hint Would you want to set price first?

54
Competition Versus Collusion The Prisoners
Dilemma
  • Why wouldnt each firm set the collusion price
    independently and earn the higher profits that
    occur with explicit collusion?

55
Competition Versus Collusion The Prisoners
Dilemma
  • Assume

56
Competition Versus Collusion The Prisoners
Dilemma
  • Possible Pricing Outcomes

57
Payoff Matrix for Pricing Game
Firm 2
Charge 4
Charge 6
Charge 4
Firm 1
Charge 6
58
Competition Versus Collusion The Prisoners
Dilemma
  • These two firms are playing a noncooperative
    game.
  • Each firm independently does the best it can
    taking its competitor into account.
  • Question
  • Why will both firms both choose 4 when 6 will
    yield higher profits?

59
Competition Versus Collusion The Prisoners
Dilemma
  • An example in game theory, called the Prisoners
    Dilemma, illustrates the problem oligopolistic
    firms face.

60
Competition Versus Collusion The Prisoners
Dilemma
  • Scenario
  • Two prisoners have been accused of collaborating
    in a crime.
  • They are in separate jail cells and cannot
    communicate.
  • Each has been asked to confess to the crime.

61
Payoff Matrix for Prisoners Dilemma
Prisoner B
Confess
Dont confess
Confess
Prisoner A
Would you choose to confess?
Dont confess
62
Payoff Matrix for the P G Prisoners Dilemma
  • Conclusions Oligipolistic Markets
  • 1) Collusion will lead to greater profits
  • 2) Explicit and implicit collusion is possible
  • 3) Once collusion exists, the profit motive to
    break and lower price is significant

63
Implications of the Prisoners Dilemma for
Oligipolistic Pricing
  • Observations of Oligopoly Behavior
  • 1) In some oligopoly markets, pricing behavior
    in time can create a predictable pricing
    environment and implied collusion may occur.

64
Implications of the Prisoners Dilemma for
Oligipolistic Pricing
  • Observations of Oligopoly Behavior
  • 2) In other oligopoly markets, the firms are
    very aggressive and collusion is not possible.
  • Firms are reluctant to change price because of
    the likely response of their competitors.
  • In this case prices tend to be relatively rigid.

65
The Kinked Demand Curve
/Q
Quantity
66
The Kinked Demand Curve
/Q
Quantity
MR
67
Implications of the Prisoners Dilemma for
Oligopolistic Pricing
Price Signaling Price Leadership
  • Price Signaling
  • Implicit collusion in which a firm announces a
    price increase in the hope that other firms will
    follow suit

68
Implications of the Prisoners Dilemma for
Oligopolistic Pricing
Price Signaling Price Leadership
  • Price Leadership
  • Pattern of pricing in which one firm regularly
    announces price changes that other firms then
    match

69
Implications of the Prisoners Dilemma for
Oligopolistic Pricing
  • The Dominant Firm Model
  • In some oligopolistic markets, one large firm has
    a major share of total sales, and a group of
    smaller firms supplies the remainder of the
    market.
  • The large firm might then act as the dominant
    firm, setting a price that maximized its own
    profits.

70
Price Setting by a Dominant Firm
Price
Quantity
71
Cartels
  • Characteristics
  • 1) Explicit agreements to set output and price
  • 2) May not include all firms

72
Cartels
  • Characteristics
  • 3) Most often international
  • Examples of unsuccessful cartels
  • Copper
  • Tin
  • Coffee
  • Tea
  • Cocoa
  • Examples of successful cartels
  • OPEC
  • International Bauxite Association
  • Mercurio Europeo

73
Cartels
  • Characteristics
  • 4) Conditions for success
  • Competitive alternative sufficiently deters
    cheating
  • Potential of monopoly power--inelastic demand

74
Cartels
  • Comparing OPEC to CIPEC
  • Most cartels involve a portion of the market
    which then behaves as the dominant firm

75
The OPEC Oil Cartel
Price
Quantity
76
Cartels
  • About OPEC
  • Very low MC
  • TD is inelastic
  • Non-OPEC supply is inelastic
  • DOPEC is relatively inelastic

77
The OPEC Oil Cartel
Price
P
QOPEC
Quantity
78
The CIPEC Copper Cartel
Price
Quantity
79
Cartels
  • Observations
  • To be successful
  • Total demand must not be very price elastic
  • Either the cartel must control nearly all of the
    worlds supply or the supply of noncartel
    producers must not be price elastic

80
Summary
  • In a monopolistically competitive market, firms
    compete by selling differentiated products, which
    are highly substitutable.
  • In an oligopolistic market, only a few firms
    account for most or all of production.

81
Summary
  • In the Cournot model of oligopoly, firms make
    their output decisions at the same time, each
    taking the others output as fixed.
  • In the Stackelberg model, one firm sets its
    output first.

82
Summary
  • The Nash equilibrium concept can also be applied
    to markets in which firms produce substitute
    goods and compete by setting price.
  • Firms would earn higher profits by collusively
    agreeing to raise prices, but the antitrust laws
    usually prohibit this.

83
Summary
  • The Prisoners Dilemma creates price rigidity in
    oligopolistic markets.
  • Price leadership is a form of implicit collusion
    that sometimes gets around the Prisoners Dilemma.
  • In a cartel, producers explicitly collude in
    setting prices and output levels.

84
End of Chapter 12
  • Monopolistic Competition and Oligopoly
About PowerShow.com