Transcript How? When? What? The economics of competitive advantage Why

100
80
Where?
How? When?
What?
Why?
2015
60
East
West
North
40
20
0
1st Qtr
2nd Qtr 3rd Qtr 4th Qtr
Who?
Managerial Economics
Stefan Markowski
Market structures and conduct
Competition and contestability
The economics of competitive advantage
Detailed course schedule
Day no
Topic
Textbook ch.
1 (24 Nov;
3 hrs)
1. Introduction. Decision making process and its elements. The scope of
economic decision making. Application of marginal analysis
Chs. 1-2
2
3
3
3
2. Demand analysis and demand elasticities
Ch. 3
3. Buyer product valuation and choices. Consumer surplus. Buyer pricing
decisions
Ch. 4
4 (27 Nov;
2 hrs)
4. Production/transformation process. Production technologies and input-output
structure
Ch. 5
5 (28 Nov;
2 hrs)
5. Cost structure and cost drivers of producer pricing strategies. Production
scale and scope.
Chs. 5 and 7
6 (1 Dec; 3
hrs)
6. Structure-conduct-performance . Market structures: competition and
contestability. Pricing strategies of buyers and sellers
Ch. 8
7 (2 Dec; 3
hrs)
7. Market structures: monopoly/monopsony, monopolistic competition and
oligopoly. Pricing strategies and strategic behaviour
Chs. 9-10
8 (3 Dec; 3
hrs)
8. Input sourcing and investment. Pricing and market power
Chs. 6 and 11
9 (4 Dec; 2
hrs)
9. Decision making under conditions of uncertainty. Informational asymmetries
and risk management
Ch. 12
10 (5 Dec;
2 hrs)
10. Market research and market analysis. Auction and rings. Strategic
behaviour
Ch. 13
11 (8 Dec;
2 hrs )
12 (9 Dec;
2 hrs)
11. Public sector perspective
Ch. 14
13 (11
Dec; 2 hrs)
Examination
(25 Nov;
hrs)
(26 Nov;
hrs)
12. Revision
13. Examination
Topic 6: Structure-conduct-performance
Market structures: competition
and monopoly/monopsony
Pricing strategies of buyers and sellers
Topic Contents
6.1
Managerial
perspective
6.6
6.2
Market exchange supply and demand
model
Alternatives to
vertical
integration
6.7
Transfer pricing
6.8
Competition
and contestability
6.9
Further reading
6.3
Competitive market
and efficient market
exchange
6.4
Distorted market
exchange
6.5
Make or buy decision
- Vertical integration
6.1 Managerial Perspective
• Market - any collection of buyers and sellers
trading outputs produced for sale and inputs
purchased for use in production. Markets
facilitate multilateral forms of exchange
• The firm is an organisation in which centralised
management replaces the decentralised,
impersonal forces of the market. A crucial issue
is whether firms have market power
• Price makers have a degree of market power
and make use of it
• Many firms act strategically to increase their
market power by trying to change the
environment in which they and their rivals are
competing
6.1 Managerial Perspective
• Different market structures are a stylised way
of framing the mechanics of market interactions
between buyers and sellers
• What is emphasised here is the distribution of
market power between buyers and sellers,
which drives their business conduct and
outcomes/preformance
• Market power should not be confused with the
number of active market participants
• The benchmark of economic efficiency is the
competitive market structure where neither
buyers nor sellers can exercise market power
to influence the market price
6.3 Market exchange:
Supply and demand model
• The supply-demand model is perhaps the most
powerful of all tools/models used by economists
• The interaction between the demand and supply
curves determines a unique (equilibrium) pricequantity combination at which there is neither
excess demand nor excess supply
6.3 Market exchange:
Supply and demand model
Price
Market Demand
Market Supply
Excess Supply
P(high)
P(equilibrium)
P(low)
Excess Demand
Q(eq)
Quantity
6.3 Market exchange:
Supply and demand model
Predictions of price-quantity adjustments
Shift in demand
Price
Market Demand
Market Supply
Pb
Pa
Qa
Qb
Quantity
6.3 Market exchange:
Supply and demand model
Predictions of price-quantity adjustments
Shift in supply
Price
Market Demand
Market Supply
Pa
Pb
Qa
Qb
Quantity
6.3 Market exchange:
Supply and demand model
Market fluctuations
Price
Market Demand
Market Supply
Pb
Pa
Qa
Quantity
6.3 Market exchange:
Supply and demand model
Market fluctuations and stabilising speculation
(also Price stabilisation scheme)
Price
Market Demand
Market Supply
PH
b
PS
PL
a
QL
QH
Quantity
In the absence of speculation quantities supplied fluctuate between QL and
QH and market prices between PH and PL . Speculator buys low (a) sells high
(b). This lowers the amplitude of price fluctuations if it is profitable
6.4 Competitive market and
efficient market exchange
• An efficient market exchange is one that
maximises the sum of consumer and producer
surpluses
• This is achieved in highly competitive markets
through trade (the invisible hand of impersonal
market forces) so that goods and services are:
– allocated to buyers who value them most highly (as
shown by their willingness to pay)
– produced by/sourced from the least cost sellers (as
indicated by the size of producer surplus0
6.5 Distorted market exchange
• Impediments to free market exchange prevent
buyers and sellers from realising the full
potential of market interaction
• Examples:
– producer subsidy
– tariffs
– government price regulation
6.5 Distorted market exchange
Producer Subsidy
Price
Home supply before subsidy
Home Market Demand
Home supply
with subsidy
Costhome
Subsidy
Pworld
World Supply
Imports
Qa
Qb
Quantity
World price paid at home by consumers but subsidized producers produce
more and replace imports of more efficiently produced world products. Net
loss of national resources
6.5 Distorted market exchange
Tariff
Price
Home Market Demand
Home Supply
Phome
Tariff
Pworld
World Supply
Imports
Qa
Qb
Qc
Quantity
6.5 Distorted market exchange
Price regulation: Price Ceiling
Price
Market Demand
Market Supply
Free market price
Price ceiling
Excess demand
Qs
Qeq
Qd
Quantity
6.6 Make or buy decision:
Vertical integration
• Vertical integration - the consolidation of the production
process/value adding chain under the control of a single
corporate entity
• Firms integrate vertically because
– they seek more market power in input and/or output markets
– or the cost of in-house production is less than that of sourcing
similar inputs/components from suppliers
• Firms may increase their market power by foreclosing the
market through merger (a barrier to entry for competitors)
• Vertical integration may
– reduce their transaction cost of doing business with suppliers
– or reduce the scope for opportunistic behaviour by suppliers
• Quasi-vertical integration: contractual arrangements but
no formal merger
6.7 Alternatives to vertical
integration
• Alternatives to vertical integration:
– exclusive territories (may be combined with price
ceilings and quotas)
– exclusive dealerships (may be reinforced by
warranties or after-sale support)
– retail price maintenance (often illegal)
– franchising
6.8 Transfer pricing
• A vertically-integrated firm may adopt rules for internal
resource allocation
• Transfer pricing involves setting prices (in transfers
between cost centres) for products which a firm produces
for in-house use
• Transfer pricing decisions where:
– there is an external, competitive market for the inhouse traded product
– there is a market but it is not competitive
– there is no external market for the product
6.9 Competition and contestability
• Competitive market is a market where there are many
atomistic buyers and sellers and none of these has
market power to influence the market price or the volume
of products traded
• Perfectly competitive market - very large numbers of
atomistic buyers and sellers, each buyer/seller operating
as a utility/profit maximising price taker
• A contestable market is a market where there are no
significant barriers to entry and exit (no significant sunk
costs) so that newcomers may enter and incumbents exit
at a low cost
• Decision rule
MR = AR = P = MC
s.t AC < AR
6.9 Competition and contestability
Perfect Competition
Representative Seller in the Long Run
Price/Cost
MC
AC
P
MR=AR=P
Q
Quantity
6.10 Further reading
Baye (2010): chs. 7-8 and 11