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Between Competition and Monopoly

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Chapter 12 Between Competition and Monopoly. . . neither fish nor fowl. JOHN HEYWOOD APPENDIX APPENDIX Monopolistic Competition Monopolistic competition Many buyers ... – PowerPoint PPT presentation

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Title: Between Competition and Monopoly


1
Chapter 12
  • Between Competition and Monopoly
  • . . . neither fish nor fowl.
  • JOHN HEYWOOD

2
Monopolistic Competition
  • Monopolistic competition
  • Many buyers and sellers
  • Freedom of exit and entry
  • Perfect information
  • Heterogeneous products
  • Product differentiation
  • Imperfect substitutes

3
Monopolistic Competition
  • Monopolistic competition
  • Different from perfect competition
  • Product differentiation
  • Demand curve negative slope
  • Flatter than monopoly
  • Price increase
  • Lose some customers

4
Monopolistic Competition
  • Short-run equilibrium
  • Marginal revenue curve
  • Below demand curve
  • Maximize profit
  • Output MR MC
  • Price demand curve

5
Figure 1
  • Short-run equilibrium of the firm under
    monopolistic competition

6
Monopolistic Competition
  • Long-run equilibrium
  • Short-run economic profit
  • New firms enter industry
  • Each firms
  • Demand curve decrease
  • MR curve decrease
  • Zero economic profit P AC
  • Demand curve - tangent to AC curve

7
Figure 2
  • Long-run equilibrium of the firm under
    monopolistic competition

8
Monopolistic Competition
  • Excess capacity theorem
  • Long run
  • Output lower
  • Not minimize per unit costs
  • Excess capacity
  • Unused / wasted capacity
  • Increase output
  • Decrease per unit costs

9
Oligopoly
  • Oligopolistic behavior models
  • Ignoring interdependence
  • Firms ignore interdependence
  • Strategic interaction
  • Operate in same market
  • Interdependence

10
Oligopoly
  • Oligopolistic behavior models
  • Cartel
  • Group of sellers collude
  • Control production, sales, price
  • Advantages of monopoly
  • Difficult
  • Organize
  • Enforce
  • Illegal in United Sates

11
Oligopoly
  • Price war
  • Each firm lower price than rivals
  • Oligopolistic behavior models
  • Price leadership Tacit collusion
  • One firm sets price
  • Others follow
  • Easy to break down

12
Oligopoly
  • Sales maximization
  • Maximize total revenues
  • Keep producing until MR 0
  • Produce more Lower price
  • Than with profit maximization

13
Figure 3
  • Sales-maximization equilibrium

14
Oligopoly
  • Kinked demand curve model
  • One demand
  • Competitors match price moves
  • Second demand
  • Competitors stick to initial price levels
  • Kinked demand curve
  • Changes slope abruptly
  • Sticky price
  • Doesnt respond
  • To minor cost changes

15
Figure 4
  • The kinked demand curve

16
Figure 5
  • The kinked demand curve and sticky prices

17
Oligopoly
  • Game theory
  • Strategic game
  • Players firms
  • Payoff matrix
  • Expected earnings
  • Based on strategies
  • Duopoly
  • Oligopoly with two firms

18
Table 1
  • Firm As payoff matrix game with a dominant
    strategy

Firm B strategy Firm B strategy
Low-tech High-tech
Firm A strategy Low-tech 10m -2m
Firm A strategy High-tech 12m 3m
19
Oligopoly
  • Game theory
  • Dominant strategy
  • Yields higher payoff
  • Indifferent to strategy of competitors
  • Duopoly
  • Market better off
  • Than monopoly
  • No collusion

20
Table 2
  • Two-firm payoff matrix in a game with dominant
    strategies

Firm B strategy Firm B strategy
Low-tech High-tech
Firm A strategy Low-tech A gets 10m B gets 10m A gets -2m B gets 12m
Firm A strategy High-tech A gets 12m B gets -2m A gets 3m B gets 3m
21
Oligopoly
  • Games without dominant strategy
  • Maximin criterion
  • Player select strategy
  • Maximum payoff
  • Assume opponent maximum damage

22
Table 3
  • Firm As payoff matrix in a game without a
    dominant strategy

Firm B strategy Firm B strategy
Low-tech High-tech
Firm A strategy Low-tech 10m 7m
Firm A strategy High-tech 3m 8m
23
Oligopoly
  • Nash equilibrium
  • Each player strategy
  • Highest possible payoff
  • Rival sticks to strategy chosen
  • Zero-sum game
  • One players gain
  • The other players loss

24
Table 4
  • Zero-sum payoff matrix

Firm B strategy Firm B strategy
Low-tech High-tech
Firm A strategy Low-tech A gets 10m B gets 0 A gets -2m B gets 12m
Firm A strategy High-tech A gets 4m B gets 6m A gets 7m B gets 3m
25
Oligopoly
  • Repeated games
  • Game played a number of times
  • Reputation
  • Tit for tat (tacit collusion)
  • Credible threat
  • Doesnt harm firm making threat
  • If carried out

26
Figure 6
  • Entry and entry-blocking strategy

Possible Choices of Old Firm Possible Reactions of New Firm Profits (millions ) Profits (millions )
Possible Choices of Old Firm Possible Reactions of New Firm Old firm New firm
-2 -2
4 0
2 2
6 0
27
Public Welfare
  • Monopolistic competition
  • Excess capacity
  • Not socially optimal
  • Oligopoly
  • Cartels
  • Misleading advertising
  • Not socially optimal

28
Public Welfare
  • Perfectly contestable market
  • Costless unimpeded entry exit
  • Profitable contestable market
  • Attracts potential entrants
  • Constant threat of entry

29
Public Welfare
  • Socially desirable characteristics
  • Freedom of entry
  • Eliminates excess economic profits
  • Inefficient enterprises
  • Cannot survive
  • Firms
  • Operate as efficiently as possible
  • Charge prices low
  • Long-run financial survival

30
Comparing the Four Market Forms
  • Perfect competition pure monopoly
  • Analytical purposes
  • Zero economic profits
  • Long-run equilibrium
  • Perfect competition
  • Monopolistic competition
  • AC AR
  • Easy entry exit

31
Comparing the Four Market Forms
  • MC MR all market forms
  • Except oligopoly
  • Perfectly competitive firm industry
  • Efficient allocation of resources
  • Maximizes benefits to consumers
  • Monopoly
  • Misallocate resources
  • Restrict output
  • Raise prices profits

32
Comparing the Four Market Forms
  • Monopolistic competition
  • Excess capacity
  • Inefficiency
  • Oligopoly
  • Anything can happen

33
Table 5
  • Attributes of the four market forms

Market Form Number of Firms in the Market Frequency In Reality Entry Barriers Public Interest Results Long-run Profit Equilibrium Conditions
Perfect competition Pure monopoly Monopolistic competition Oligopoly Very many One Many Few Rare (if any) Rare Widespread Produces large share of GDP None Likely to be high Minor Varies Good Outputs not optimal Inefficient Varies Zero May be high Zero Varies MCMR ACARP MRMC MRMC ARAC Varies
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