Market structures knowledge gaps

What are market structures

• Defined in terms of organisation and other characteristics of a market such as number of firms and ease of entry/exit

What is the divorce and ownership of control?

• Owners and those who mange the firm are different entities

• Shareholders assume ownership

• Board of directors make management decisons i.e exercise the entrepunurial function

What is the principal agent problem and why does it exist?

• Objectives of the principal don not align with the agent

• Agents posses a large knowledge regarding the operations of the firm and may concentrate on alternative objectives such as revenue maximisation or job security

• May only respond to incentives that enhance personal rewards

Why may the objectives of the agent not align with the principal

• Agent bears the cost of fulfilling the task delegated by the principal but does not receive the full benefits of their actions

• Destroying the incentive to exercise the same effort had they been the sole recipient of the the benefits

What is a moral hazard

• Agent may take on excessive risk if they enjoy the benefits of doing so but not the cost

Why may the principal agent problem persist?

• Cost of removing the agent is greater than the benefit incurred by the principal

• Information asymmetry - agents acquire more knowledge of the firm→ Making it harder for shareholders to know if directors are operating in their interest

• E.g are low profits managerial incompetency or adverse economic factors

List of control mechanisms

• AGMs→ Where directors are held accountable and can be voted out or where remuneration packages can be limited (finical and non finical benefits)

• Shared ownership schemes: Management receives a financial stake in the company- managers will directly benefit from the success of the firm.

• Shareholder activism : Shareholders exert amplified pressure on management to increase their returns → for example via share buy backs where profit are sued to buy firms own shares form the market-which increases price of shares and thus increase earnings per share.

What is the satisficing principle

• When firms aim to achieve a satisfactory outcome rather then the best possible outcome

• In order to appease all the agents within the firm

• Profit maximisation is replaced with satisfactory principle

Other objectives of the firm :

• Growth maximisation→ Firms may focus on expansion to achieve EOS or usurp market share

• Survival →Loss making firms focus solely on riding out economic downturns

• Revenue maximisation → Occurs where Mr=0

• Increasing product quality and or sales service

Explain LR and SR outcomes in PC using diagrams

In what ways does Monopolistic competition resemble PC

• Large number of firms

• No barriers to entry/exit in the LR

In what ways does monopolistic competition resemble a monopoly

• Each firm posses a degree of monopoly power due to the differentiated goods.

• Downward sloping demand curve as good produced by other firms are partial substitutes

• Worth noting the AR curve is slightly elastic

Explain SR outcome of monopolistic competition via diagram

Explain LR outcome for monopolistic competition via diagram

Evaluate monopolistic competition

• Productively inefficient → Producing a level of output less than the output at which AC are minimised - resulting in excess capacity, they could cost cut by expanding output but this compromises profit maximising objective

• BUT the freedom of entry means that monopolistic firms are forced to eliminate unnecessary costs(outdated machinery) that could raise AC - No x-inefficiency

• Product differentiation increases the range of choice improving economic welfare

• Due to product diversification and desire of consumers for variety, harder for firms to achieve EOS such as bulk buying -Thus productive inefficiency and the extra cost is something consumers are willing to pay for choice

• Allocatively inefficient as P>MC but exploitative power is of a smaller extent compared to a monopoly

Non-price competition

• Quality

• Advertising

• Brand loyalty

• Obtaining exclusive outlets through which companies can sell their products

• Packaging/brand image

Such startegies are employed by imperfectly competitive firms to gain greater MS

Legal definition of a monopoly

• If a firm has a MS of 25% or higher

Define monopoly

• A market in which there is a dominant firm but also smaller firms producing substitutes

• Such substitutes have a lower XED - meaning competition exerted by those smaller firms is effectively negligible

LR and SR outcome of a monopoly

• Abnormal profits - they are insulated by high barriers to entry

Disadvantages of a monopoly

• May cause MF

-Monopolists uses their market power to restrict output and increase prices

-Inefficient allocation of resources - leading to underconsumption of a good

• Deadweight welfare loss

-Losses not recovered as gains

-Consumer detriment

Advantages of a monopoly

• Natural monopoly→ Where only firm can exhaust EOS

-Provides the MES = Market demand they can produce the whole of market output at lower costs- cannot be replicated by competitive firms as they will fail to achieves such cost advantages

• Monopolies benefit form dynamic efficencey

-Surplus profits=internal finace → invested in R+D

-(However some may arfgue a monopoly reduces incentive to innovate - insulated from competive presssre - they choose to profit satfice - x-inefficency)

What counters the argument that PC is always allocatively efficient ?

• PC is always AE provided their are no negative or positive externalities

• To achieve allocative efficiency price must = the true mc of production i.e the msc not just the mpc

• If negative externalities are generated P<MSC even when p appears to equal mc

• In this case an allocatively efficient equilibrium has not been achieved

Define structural barriers to entry and give examples

• Result from inherent features of the industry and growth of firms

• EOS and Sunk costs

What are strategic barriers to entry and provide examples.

• Constructed by firms to deter market entry

• Limit/predatory pricing

• Product differentiation →Lead to brand identity/loyalty

• This can lead to another barrier switching costs→ Time cost incurred by consumers when switching suppliers

Explain the structural barrier diagram

Explain the strategic barrier to entry diagram

What is Price discrimination

• When a firm charges different prices to different consumers for the same product

Conditions necessitated for price discramtion

• Firms must have price making ability

• Prevent re-sale→ To avoid market seepage→ goods purchased where prices are lower sold in markets where prices are higher

• Must be able to segment the market (according to age location an time)

• Different segments should have varying PEDs

What is first degree price dicrimnation

• Each customer is charged the highest price they are prepared to pay

• No conusumer surplus

What is second degree price discrimination

• Occurs when different prices are charged per unit depending on how many sold or when surplus capacity is sold at lower prices (to ensure resources are not idle /discounted price can go towards covering fixed costs)

Explain second degree price discrimination diagram

What is 3rd degree price discrimination and explain the diagram

• Firms charge diffrent prices to consumers who are sperated into difftrent segements based on PED/willngness to pay

Disadvantages of Price discrimination

• Anti competitive →In 3rd degree PD firms charge lower prices in elastic segment→ driving out competitors→ they are left with greater market share →reinforcing monopoly power

• Inequal distribution of welfare →those in a inelastic segment may be low income

Advantages of price discrimination

• Cross subsidisation→ Extra revenue made in markets where consumers are willing pay more can be used to subsidise markets providing merit goods to keep prices low

• Dynamic efficiency→ Large profit-higher reinvestment potential improving product and quality

• Some consumers can benefit in 2nd degree price discrimination where they receive a discounted price

What is an oligopoly

• A market structure in which few firms dominate

• But it is better to define oligopoly in terms of market conduct as it is difficult to determine how many firms can be considered “a few”

What is a concentration ratio?

• Measure the market share of the biggest firms in the market

What concnetration ratio can help determine an oligpoply market

• If the 5 firm concentration ration is 60% or greater market can be considered an oligopoly

What is a competitive /non-collusive oligopoly

• exists when rival firms are interdependent in the sense they must take into account eachither reactions when forming a market strategy

• But firms are independent in the sense that they deicide market strategy without colluding

Why is uncertainty a characteristic of a competitve oligopoly

• Firms can never be certain regarding how rivals will react to their market decisions

What is a characteristic of collusive oligopoly

• Firms form cartel agreements which is when they decide to fix prices ,agree to restrict output or deter the entry of new firms

What is the problem with cartel agreemtns and collusion

• Protect inefficent