Econ Unit 4: Imperfect Competition

Monopoly

Competitive structure in which there is only one seller of a particular product with no close substitutes. SINGLE, UNDIFFERENTIATED PRODUCT.

Qualities of a Monopoly

One seller, Barriers to entry, Great deal of influence on price (price searcher), No close substitutes, Monopolist controls information. EXAMPLES: Small Town Store, Garbage Collection, Concessions, Utilities

What is the main cause of a monopoly?

Barriers to entry! For example: government contracts, legal actions, population size

What are the different barriers to entry for a monpoly?

Patents (technological monopoly), Economies of scale (natural monopoly), Geographic barriers to entry. (small town/population), Exclusive rare earth minerals / raw materials only found in certain areas, Large capital investment required industries, and Government actions such as tariffs or licenses

What must the monopolist do to sell additional units?

Lower price

Since the monopolist is a price searcher, the demand curve is…

downward sloping, as the monopolist is the entire market. This also means that marginal revenue is less than price because the monopolist must lower the price of ALL units to sell additional units (cannot price discriminate).

At the point where MR = 0…

is where TR is maximized (negative quadratic graph is what it looks like)

At the point where MC = MR…

is where the monopolist maximizes profit. This is also where TR exceeds TC by the largest amount. TC looks like an x³ graph, but NEVER flatlines when drawn.

When MR is positive…

the demand curve is elastic. The monopolist always chooses to produce here because producing higher quantity increases total revenue.

When MR is negative…

the demand curve is inelastic

ATC < D at P =

profit

ATC = D at P =

break-even point

ATC > D at P =

losses

Why are monopolists bad?

In order to maximize output, the monopolist produces output and charges a higher price than a competitive market would for it. By producing less, the monopolist takes away from consumer and producer surplus. This is deadweight loss!

A competitive market would produce where…

MC = D. The triangle made from the price at which the competitive market would produce, MC, and the line of what quantity the monopolist produces at is producer surplus lost. the triangle above that (D instead of MC) along with the empty space above monopolists profit is consumer surplus lost.

Are monopolists efficient?

No because of deadweight loss they fail to achieve productive and allocative efficiency

Why do monopolists fail to achieve productive efficiency? What is productive efficiency?

Since the monopolist doesn’t produce at minimum ATC, they fail to achieve productive efficiency. Productive efficiency is found by producing at the lowest possible cost.

Why do monopolists fail to achieve allocative efficiency? What is allocative efficiency?

The monopolist fails to achieve allocative efficiency because they do not charge a price equal to MC. Allocative efficiency is social efficiency - making producers and consumers happy as they believe they are both making somewhat of a deal.

Because of monopoly’s inefficiency, governments will…

Regulate to get them to produce more and charge less

Social Optimum Point

forcing the monopolist to produce where P = MC

Fair Returns Point

Forcing the monopolist to produce where P = ATC (at 0 economic profit)

Price discrimination results in…

no consumer surplus

Monopolistic competition is…

more elastic than monopolies due to the presence of substitutes

the characteristics of monopolistic competition are…

many buyers and sellers, some influence over price (price searcher), easy entry and exit, advertising to influence information, product differentiation

In the long run, monopolistic competition…

results in zero economic profit due to free entry and exit of firms (substitution effect - more firms enter the market, therefore more substitute products, and thus the demand curve for any individual product shifts to the left until profit is zero.

in monopolistic competition, there is some inefficiency because…

price does not equal marginal cost and the firm is not producing at minimum ATC so therefore they are not allocatively or productively efficient

excess capacity

the difference between the profit max quantity (allocative point) and the productively efficient quantity (productive point)

In monopolistic competition in the long run, the main factor is…

zero-economic equilibrium (no entry exit, high only occurs at 0 profit, here firms only manage to cover costs at profit max output quantities)

The effect of entry to the long term Monopolistic Competition market is…

demand and marginal revenue shift to the left

The effect of exit to the long term Monopolistic Competition market is…

demand and marginal revenue shift to the right

Oligopoly

market structure in which a few firms dominate a particular market

concentration ratio of an oligopoly

the percentage of total sales accounting for the top few firms in the industry (total sales of top x firms / total sales of entire industry)

the key characteristics of an oligopoly are…

independence of firms (game theory), advertising to inform consumers, some product differentiation, few dominant firms, weaker barriers to entry

game theory uses…

a payoff matrix to analyze and predict the actions of players and firms

a dominant strategy is

one that a firm will definitely follow no matter what their competitor chooses to do

Nash Equilibrium

a position from which neither player can be better off by independently changing their behavior

Horizontal merger

between two firms that produce and sell the same product

Vertical merger

between two firms in different stages of the supply chain (ford and steel for ex)

collusion

illegal cooperation between firms

cartel

formed when firms collude to the extent of acting as a monopoly

noncooperative model

each firm acts in their own self interest

bertrand model

undercut each other to steal customers until MC = P

cournot model

outcome of competition is fixed and outcome is restated to a quantity that maximizes profit

prisoner’s dilemma

game in which the payoff matrix implies that each player has an incentive regardless of other players, to cheat / take actions at others expense (when both cheat, both are worse off than if neither cheated, but if only one cheats, then that individual is much better off)

overcoming the prisoner’s dilemma

influence the competitions future actions, tit for tat (cooperate at first, then do what the first player did at prior), or tacit collusion (firms limit production and raise prices to raise each others profits without formal agreement)

trust

all major companies place their shares in the hand of a board of trustees that control the companies within that industry, so that they all effectively act as a monopoly

antitrust policy

prevents oligopolistic markets to behave as a monopoly through trusts or similar

normal state

tacit collusions exist

it is hard to push from a normal state in an oligopoly to a monopoly level because of

the large numbers of firms which leads to less incentive to cooperate, complex products and price schemes so keeping track of what other firms produce can be difficult, differences in interest as both think of a different split or option as fairer, bargaining power of buyers because lower prices hook consumers leading to price wars

price leadership

one firm sets the price first and the others follow