Transcript Chapter 10

PRINCIPLES OF ECONOMICS
Chapter 10 Monopolistic Competition and Oligopoly
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IMPERFECT COMPETITION
The laundry detergent market is one that is
characterized neither as perfect competition nor
monopoly as there are a few big firms supplying
the good.
MONOPOLISTIC COMPETITION
A market in which there are many firms
producing similar, but not identical goods and
services.
Example: fast-food restaurants; gas stations;
grocery stores; travel agencies
OLIGOPOLY
A market in which there are a few large firms.
Examples
•Domestic Oil (e.g., Chevron, Texaco,
Exxon)
•Airlines (e.g., American, Delta, Alaska)
•Automobile (e.g., General Motors, Ford,
Chrysler)
EXAMPLES OF MARKETS
Perfect
Competition
1)
2)
Monopolistic
Competition
Agriculture 1)
Lumber
2)
Oligopoly
Fast Food 1)
Long
Distance
2)
Phone
Service
Cars and
Trucks
Soft
Drinks
Monopoly
1)
2)
3)
Windows
Operating
system
PG & E
The Gas
Company
MARKET CHARACTERISTICS
Perfect
Competition
Monopolistic
Competition
Oligopoly
Monopoly
Number
of Firms
Many-often
thousands or
even millions
Many
Few
One
Barriers
to Entry
None
Few
Substantial
Insurmountable,
at least in the
short run
Product
Similarity
Identical
Similar but not
identical
Similar or
Identical
Unique
* The line between “several” and “few” is not definite
WHICH MODEL FITS REALITY?
Perfect competition is rare outside agriculture
though it fits some labor markets.
Monopolies are common in public utilities like
electricity and water.
Major branded companies are typically either
oligopolistic (automobile) or monopolistically
competitive (McDonalds).
MONOPOLISTIC COMPETITION
The demand curve facing a perfectly
competitive firm is a horizontal line, meaning it
can sell all the output it produces at the market
price.
The demand curve facing a monopoly is the
market demand. It can sell more output only
by decreasing the price.
The demand curve facing a monopolistically
competitive firm is downward sloping because
of products are differentiated.
MONOPOLISTIC COMPETITION
MONOPOLISTIC COMPETITION
Profit making depends on the P-AC margin.
To maximize profits, the Authentic Chinese
Pizza shop would choose a quantity where MR
= MC. Here it would choose Q = 40 and P =
$16 with AC = $15.
TR = 16*40 = $640
TC = 15*40 = $600
Profit = $640 – $600 = $40
MONOPOLISTIC COMPETITION
MONOPOLISTIC COMPETITION
With profit of $40, new firms enter to market to
share it.
Demand for the existing firm’s product
declines, reducing its profit.
Entry into the market continue until the firm
breaks-even with normal profit (TR covers
both explicit and implicit costs).
MONOPOLISTIC COMPETITION
OLIGOPOLY
A few big firms produce almost the entire market
output.
Products are usually differentiated.
Effective entry barriers protect firm profitability.
Price fixing is illegal in the industry. They follow
price changes and compete with advertisement.
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OLIGOPOLY - CARTELS
A few big firms that jointly maximize profit.
They agree to set price and output levels.
Generally illegal in the U.S., but common
internationally (e.g., The OPEC)
Self-interest results in failure of the cartel as some
members cheat by cutting the price
Repeated interaction increase the incentives to
cooperate.
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OLIGOPOLY – THE KINKED DEMAND CURVE
The cartel faces two demand curves:
1. Rivals follow a price cut
2. Rivals do not follow a price hick
The combined firm’s demand is kinked at
the intersection of the two demand curves
to set the price and quantity.
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OLIGOPOLY – THE KINKED DEMAND CURVE
THE GAME THEORY - NASH EQUILIBRIUM
An oligopolist does the best it can, given
expectations of rival behavior
Behavior is non-cooperative
Duopolists considering a low price or a high price
must consider rival’s response
Nash equilibrium occurs when each firm does the
best it can given rival’s actions
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2 years
2 years
A—No confession
A—No confession
THE PRISONERS‘ DILEMMA
8 year
1 year
B—Confession
A—Confession
A—Confession
B—No confession
1 year
8 years
B—No confession
5 years
5 years
B—Confession
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A-Low output
$1,000
$500
A—Low output
THE CARTEL’S DILEMMA
B-Low output
A—High output
A—High output
$200
$1,500
B—High output
B-Low output
$1,500
$200
$400
$400
B—High output
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