Economics 1.3.2

SA3 Review Part 2: Market Structures, Allocative & Productive Efficiency, Game Theory

Economies of Scale (EoS)

Cost advantages reaped by companies when production becomes efficient, causing long-run average costs to decrease as total output increases.

Perfect Competition

• Very large number of small sellers

• Homogeneous product

• No BTE

• Price-takers

• Supernormal profit in SR, normal profit in LR

Monopolistic Competition

• Large number of small sellers

• Differentiated product

• Low BTE

Oligopoly

• Few large sellers that dominate the market; high market share and concentration ratio

• Homogeneous/differentiated product

• High BTE

• Mutual interdependence

Market share

The percentage of a market’s total sales that a firm has.

Concentration Ratio

A ratio of the combined market shares of a given number of firms to the whole market size.

Oligopoly: 5-firm concentration ratio >50~60%

Mutual interdependence (Oligopoly)

A condition whereby the actions of one firm will have an effect on the other firms.

Monopoly

• One seller

• Unique product

• Very high BTE

• Price-setters

Typical Monopoly Barriers to Entry (BTE)

• Ownership of a vital resource

• Legal barriers (patents, licenses, copyrights, etc.)

• Financial barriers (high start-up costs, EoS)

Allocative Efficiency

What to produce — matches consumer demand & maximizes societal welfare

Condition: production @Q that meets P=MC

Productive Efficiency

How to produce — when goods are produced at the lowest possible cost

Condition: production @Q that is where ATC minimum

Does PC achieve AE?

Yes — P=MC @Q*

Does PC achieve PE?

Yes — ATCmin @Q*

Does Monopoly achieve AE?

No — P>MC @Q*

Does Monopoly achieve PE?

No — costs>ATCmin @Q*

Profit-maximizing Output

MC=MR

Game Theory

A theoretical framework for analyzing strategic decision-making, where a firm's success depends on the choices of others.

Prisoner’s Dilemma

Applies to Oligopoly.

A fundamental game theory concept in which the gains from cooperation are larger than the rewards from pursuing self-interest.

Collusion

The act of working together to make decisions rather than acting independently.