Transcript Slide Set 3
Chapter 9: Maximizing Profit: Profit = Total Revenue - Total Cost Total Revenue (TR) = P × Q PQ P Average Revenue (AR) = TR÷Q = Q Marginal Revenue: It measures the change in total revenue generated by one additional unit of goods or services. TR MR Q Weekly Revenue and Cost Data for a Gold Miner Price of Gold = $600 / oz Weekly Output Weekly TR Weekly TC Weekly Profit 0 1 2 3 4 5 6 7 8 9 0 600 1200 1800 2400 3000 3600 4200 4800 5400 570 810 1000 1240 1530 1920 2410 3000 3690 4480 -570 -210 200 560 870 1080 1190 1200 1110 920 Weekly Weekly Output TR 0 1 2 3 4 5 6 7 8 9 0 600 1200 1800 2400 3000 3600 4200 4800 5400 MR Weekly TC 0 600 600 600 600 600 600 600 600 600 570 810 1000 1240 1530 1920 2410 3000 3690 4480 MC Weekly Profit 240 190 240 290 390 490 590 690 790 -570 -210 200 560 870 1080 1190 1200 1110 920 MR MC MC P 0 P = MR q Output Fig. A MC ATC P a c 0 b q AVC 10 9 8 7 6 5 4 3 2 MC ATC AVC 1 1 2 3 4 5 6 7 8 9 10 Fig. C MC ATC c P n b 0 q a m AVC Fig. B MC ATC c b P a 0 q AVC 10 9 8 7 6 5 4 3 2 MC ATC AVC 1 1 2 3 4 5 6 7 8 9 10 10 9 8 7 6 5 4 3 2 MC ATC AVC 1 1 2 3 4 5 6 7 8 9 10 Chapter 10: Indentifying Markets and Market Structure Characteristics of Perfect Competition: Numerous small firms and customers. Firms have insignificant market share. Homogeneity of Product. Firms produce perfect substitutes. Freedom of Entry and Exit. Perfect Information. Demand Facing a Typical Firm in Perfect Competition A representative Firm Industry S P = MR P0 P0 D 0 Q0 Q 0 Q Fig. A MC P a c 0 ATC AVC b q Normal Profit: The entrepreneur’s opportunity cost. It is equal to or greater than the maximum income an entrepreneur could have received employing his or her resources elsewhere. Normal Profit is included in the firm’s costs. Economic Profit: Profit that an entrepreneur makes over the Normal Profit. P=20 MR=MC, at Q=2000 Total Explicit Cost = 10,000 Opportunity Cost = 22,000 Economic Profit = TR -TC TR = P x Q = 20(2000) = 40,000 Economic Profit = TR –TC = 40,000 -10,000 - 22,000 =8,000 Accounting Profit =30,000 TC = Total (Economic) Cost =Explicit Cost + Implicit Cost Exercises: MC 18 ATC 15 AVC 0 7 Exercises: MC 16 ATC 13 12 0 AVC 4 Long Run Equilibrium under Perfect Competition S0 D S* P0 P0 a c b P* 0 Q0 Industry Q* 0 q* q0 Representative Firm Monopoly: This is a situation where a single producer (firm) is the sole producer of a good that has no close substitutes. Sources of Monopoly: The firm may control the entire supply of raw materials required to produce that output. The firm may have a patent or copyright. The case of “Natural Monopoly”. Economies of Scale may permit only one firm to be efficient in the market. Natural Monopoly P 2.25 2 1.5 ATC D 0 20 40 Q Sources of Monopoly: The firm may control the entire supply of raw materials required to produce that output. The firm may have a patent or copyright. The case of “Natural Monopoly”. Economies of Scale may permit only one firm to be efficient in the market. The case of Government Franchises. Through Mergers and Acquisitions. Characteristics of Monopoly: A single seller: A single firm produces all industry output. The monopoly is the industry. Entry into the industry is totally blocked. Imperfect dissemination of information: Cost, price, and product quality information are withheld from uninformed buyers. 8 7 TR2= 8(2)=16 AR2=8=P TR3= 7(3)=21 AR3=7=P MR3= TR3-TR2=21-16=5 MR 0 2 3 Quantity Price MR=MC P b P a c MC AVC ATC ATC AVC MR 0 Q D Quantity $ 10 9 8 7 6.5 6 5 4 3 2 MC ATC AVC 1 0 D MR 1 2 3 4 5 6 7 8 9 10 Q Price ATC MC b P c AVC a MR 0 Q D Quantity Price MC b P m c a AVC n MR 0 ATC Q D Quantity Find the Profit maximizing output from the following information. Demand Information Cost Information P Q TR MR Q TC MC 12 0 0 -- 0 5 -- 11 1 11 11 1 7 2 10 2 20 9 2 10 3 9 3 27 7 3 14 4 8 4 32 5 4 19 5 7 5 35 3 5 25 6 Profit = TR – TC = 32 – 19 = 13 Monopolistic Competition: It is a form of market organization in which there are many sellers of a heterogeneous or differentiated product, and entry into and exit from the industry are rather easy in the long run. Differentiated Product: Products which are similar but not identical and satisfy the same basic need. Characteristics: Large number of buyers and sellers. Product Heterogeneity. Free Entry and Exit. Perfect dissemination of information. The Market Structure Spectrum 36 The Demand Curve for Coca-Cola: Before and After Substitutes Appear on the Market e=-3 e = -1 e = - . 47 37 Price MC P r b a s c D D1 MR1 MR 0 q1 q Quantity Price MC P a MR2 0 q D2 Quantity The Effect of Advertising on the Firm’s Demand Curve 40 Oligopoly: This is a form of market organization in which there are few sellers of a homogeneous or differentiated product. Unlike the other forms of market structure that we have discussed, a firm in Oligopoly makes pricing and marketing decision in light of the expected response by rivals. Characteristics of Oligopoly: Few Sellers: A handful of firms produce the bulk of industry output. Homogeneous or unique product: If product is homogeneous, then we have “Pure Oligopoly”. If product is differentiated, then we have “Differentiated Oligopoly”. Blockaded Entry and Exit: Firms are heavily restricted from entering the industry. Imperfect Dissemination of Information: What are some examples of Oligopoly? Automobiles Steel Soup Cereals Gasoline Measure of Market Concentration: 4 Firm Concentration Ratios: This is the percentage of total industry sales of the 4 largest firms in the industry. Firm A = 20% Firm B = 5% Firm C = 6% Firm D = 2% Firm E = 8% Firm F = 35% Firm G = 3% Firm H = 7% Firm I = 3% Firm J = 11% What is an example of a high concentration ratio? Out of 151 firms in the aircraft industry the leading 4 constitutes 79% of total sales What is the HerfindahlHirschman Index (HHI)? A measure of industry concentration, calculated as the sum of the squares of the market shares held by each firm in the industry The Herfindahl-Hirschman Index: HHI S S S S ........ 2 1 2 2 2 3 2 4 Firm A = 20% Firm B = 5% Firm C = 6% Firm D = 2% Firm E = 8% Firm F = 35% Firm G = 3% Firm H = 7%Firm I = 3% Firm J = 11% HHI = 202 + 52 + 62 + 22 + 82 + 352 + 32 + 72 + 32 + 112 HHI = 400 + 25 + 36 + 4 + 64 + 1225 + 9 + 49 + 9 + 121 = 1942 In this case 1,000 < HHI < 10,000 What is a Balanced Oligopoly? An oligopoly in which the sales of the leading firms are distributed fairly evenly among them What is an Unbalanced Oligopoly? An oligopoly in which the sales of the leading firms are distributed unevenly among them Balanced and Unbalanced Oligopoly Concentrating the Concentration: Horizontal Mergers A merger between firms producing the same good in the same industry Vertical Mergers A merger between firms that have a supplier - purchaser relationship Conglomerate Mergers A merger between firms in unrelated industries What is Collusion? The practice of firms to negotiate price and market decisions that limit competition What is a Cartel? A group of firms that collude to limit competition in a market by negotiating and accepting agreedupon price and market shares How do firms in an unbalanced Oligopoly set price? Most often they practice price leadership What is Price Leadership? A firm whose price decisions are tacitly accepted and followed by other firms in the industry Price Leadership: Price, MC MCF MC P D MR 0 QL QF DL Quantity Imagine 3 identical firms, A, B, and C in an industry. What happens If A raises price? B and C will not raise their prices Imagine 3 identical firms in an industry A, B, C what happens If A lowers price? B and C will lower their prices The Kinked Demand Curve Model: Price P 0 Q Quantity The Kinked Demand Curve Model: Price P 0 Q Quantity Price P 0 Q Quantity Price P 0 Q Quantity Brand Multiplication: Variations of essentially one good that a firm produces to increase its market share. Firm’s Market Share = (Number of Brands) x (Brand’s Market Share) Price Discrimination : The practice of offering a specific good or service at different prices to different segments of the market. Centralized Cartels: P P MC MC2 MC1 P D MR 0 q1 0 q2 0 Q