Monopolies/ Oligopolies/ Monopolistic Competition

Definitions

Oligopoly

A market structure comprised of small number of large firms, which are mutually interdependent and are producing either homogenous or differentiated products. They have high barriers to entry and exit.

Non-price Competition

Firms engaging in product differentiation to make their products less substitutable to their rival firms.

Average Cost Pricing

A pricing strategy to limit a firm’s market power by charging a price that is equal to the average cost.

Marginal Cost Pricing

A price strategy to control a firm’s market power by charging a price equal to its marginal cost.

Mutual Interdependence

When each firm takes into account the possible actions of their rivals, also their reactions to the firms own actions when making business decisions.

Cartel

A formal collusion when two or more firms enter agreements to restrict the quantity of the good produced by each firm or to fix the price of a good in an industry.

Price Discrimination

when a producer sells the same good at different prices to different consumers for reasons that are not associated with differences in the costs of production.

Price Leadership

cooperation that is implicit or understood between the cooperating firms, without any formal agreement.

Abnormal profits

earned when the firm’s total revenue exceeds the firms total economic costs

Productive Efficiency

when a firm uses the minimum amount of resources to produce the maximum possible output.

Long run

time period in which all factor inputs can be changed and there are only variable inputs

Nash Equilibrium

shows that a firm’s decision to maximize self interest resulting in undesirable outcomes for both the firm and their rivals, compared to the situation where both of them cooperate.

Concentration ratio

provides an indication of the percentage of output produced by the number of largest firms in an industry, reflects the degree of competition in an industry

Price/Output Determination of MC Firms (Assumptions), S-RE

All MC firms aim to profit maximize, produces at MC=MR.

• in short run, MC firms earn normal/supernormal/subnormal profits

• as MC firms earn subnormal profits, its activity is determined by its ability to cover its variable costs > MC firms shut down when Px at Ar is lower than Avc

SR Equilibrium: Supernormal Profits

AR > AC

• EQ Px: P

• EQ output: Qe

• Tr: 0PAQe

• Tc: 0CBQe

Supernormal profit area: CPAB

LR EQ: Normal Profits

• DD curve shifts left to AR2, its more Price Elastic due to the gentle slope

• New firms stop entering up until the industry earns normal profits AR2 = AC

• Supernormal Profits are eroded by entry of new firms

• MC industry earns normal profits in the long run, entry/exit of firms stops

• Each MC firm produces at a lower output, has lower market share

MC efficiency at LR EQ

• they earn normal profits in the long run

• at Q2 the π - maximizing output, charging a price that is greater than the MC. (OVERCHARGING csmrs)

• P > MC, MC firms are not AE

and

• At Q2 the π - maximizing output, Q2, the firm is not operating at min AC

• excess capacity, though firms can still lower AC by expanding its output

Out of Monopolies, Oligopolies and Monopolistic Competition: Monopolistic Competition is the MOST Allocatively inefficient

but.

Out of Monopolies, Oligopolies and Monopolistic Competition: Monopolistic Competition is the LEAST Productively inefficient

Impact on csmr: Consumer Choice

Impact on cmsr: Overcharging