ch5 competitors and competition

industrial organization

• examines how the structure of an industry affects how firms compete and how much profit they can earn

  • ex: industry with many competing sellers may experience intense price competition, while an industry with only a few sellers many allow firms to maintain higher prices

resource based view

firms purchase or obtain resources that are important for implementing their strategies

• hiring talented employees

• purchasing tech

• acquiring patents

• buying facilities

• acquiring another company

value based view

focus on how firms create value for customers and how that value is divided among the firm, customers, and other participants

• value creation: the total economic value generated by a transaction

• value capture: the portion of that value retained by the firm as profit

direct competitors

offer products or services that satisfy similar customer needs in substantially similar ways | same customer base and market

ex:

two coffee shops

indirect competitors

satisfy the same underlying customer needs but do so through different products or services

ex: coffee vs energy drinks

DOJ guideline

impact of a small but significant (>5%) non-transitory (<1-year) increase in price

• do consumer react by buying other products? yes → products are included in relevant market and test repeated until all identified

substitutes

products X and Y are substitutes if, purchases of X go down and purchases of Y go up

cross price elasticity

% change in demand for Y that results from 1% change in price of X

market structure

number and distribution of firms in a market

• monopoly is one extreme with the highest concentration - one seller

• perfect competition is the other extreme with innumerable sellers

question mark

high market growth and low relative market share

• low earnings

• negative cash flow

• increase market share or harvest/divest

star

high market growth and high relative market share

• high, stable, or growing earnings

• neutral cash flow

• hold or invest for growth

cash cow

high relative market share and low market growth

• high, stable earnings

• high, stable cash flow

• hold strategy

dog

low relative market share, low market growth

• low, unstable earnings

• negative or neutral cash flows

• harvest/divest strategy

N-firm concentration ratio

sum of market share of largest N firms,

• does not account for how market share is distributed among the largest firms

HHI

measures market concentration by adding the squared market shares of all firms in the market

• monopoly: 10,000

• perfect competition: 0

perfect competition

• prices towards marginal costs

• many sellers

  • no barriers to entry

• homogenous products

  • customers less loyal if any sellers meet their needs

monopolistic competition

• many sellers and their actions (price or output) will not materially affect competitors

• each seller sells a differentiated product (some price at which consumers prefer Product A and others prefer Product B)

  • vertical differentiation

  • horizontal differentiation

• inelastic demand and firms are price makers

vertical differentiation

• at the same price, all consumers prefer one product to the other

• based on qualities

• one is clearly better

horizontal differentiation

• at the same price, some consumers prefer one and some prefer others

• based on location and preferences

oligopoly

• small number of sellers

• pricing and output decisions by each firm affect price and output in the industry

• oligopoly models focus on how firms react to each other’s moves

cournot

• firms compete on quantity

• goods are perfect substitutes, and firms have same costs

• market determines price

• firms have best response functions and product quantities depending on the other firms

bertrand

• firms compete on price

• goods are perfect substitutes

• market determines demand

• firms have best response functions and set prices depending on the other firms

• firms can undercut each other until price falls to marginal cost and profits disappear

monopoly

• monopolist faces little competition

• monopolist can set prices or quality, subject to demand

• fringe firms do not materially affect monopolist’s profits

• firms may become monopolist by producing more efficiently, meeting consumers’ needs better than others, or natural monopoly