International Industrial Economics Flashcards

Comprehensive vocabulary flashcards covering key concepts, models, and formulas from the International Industrial Economics masterclass, including price discrimination, oligopoly models, and innovation theory.

Industrial Organization (IO)

The study of how companies with market power interact, compete, and use strategies to crush rivals and extract wealth from consumers.

SCP Paradigm

A 1950s theory suggesting that "Structure dictates Conduct"; it assumes that if a market has few large firms, they will inevitably collude and harm consumers.

The Chicago School

An economic perspective from the 1970s arguing that monopolies can be the result of extreme efficiency and success, suggesting the free market should be left alone.

Modern IO / Game Theory

The current approach to industrial economics that uses strategic analysis to examine market behavior, such as predatory pricing or exclusive deals, on a case-by-case basis.

Lerner Index ($L$)

A formula measuring market power as the ability to markup prices over marginal cost: $L = \frac{P - MC}{P} = \frac{1}{|\text{Elasticity}|}$.

HHI (Herfindahl-Hirschman Index)

A measure of market concentration calculated by squaring the market share of every firm and adding them together: $HHI = S_1^2 + S_2^2 + S_3^2 \text{...}$.

SSNIP Test

A test used by authorities to define market boundaries by determining if consumers would switch to a substitute if a hypothetical monopolist raised prices by $5 \%$..

Price Discrimination

A strategy where firms charge different prices for the same product to various consumers in order to capture consumer surplus.

First-Degree Discrimination

Also known as Perfect or Personalized Pricing, where a firm charges every individual consumer their exact maximum willingness to pay.

Third-Degree Discrimination

Group pricing where a firm identifies segments (such as students or seniors) and charges higher prices to the group with more inelastic demand.

Second-Degree Discrimination

A self-selection strategy where firms offer a "menu" of options (like Basic vs. Premium) and let consumers choose their own price-quality level.

Incentive Compatibility Constraint

A mathematical necessity in second-degree discrimination where a firm must make the lower-tier option unpleasant enough that high-value consumers will not switch to it to save money.

Bundling

The practice of selling two or more products together for a single price, typically profitable when consumers have negatively correlated tastes for the products.

Cournot Model

An oligopoly model where firms compete by simultaneously deciding the quantity they will produce, which collectively determines the market price.

Reaction Function

An equation that tells a firm the optimal quantity to produce given the production choice of its rival (e.g., $q_1 = 45 - 0.5q_2$).

Stackelberg Model

An oligopoly model where a "Leader" firm moves first to decide quantity, forcing the "Follower" firm to react to the already-flooded market.

Backward Induction

The mathematical technique used to solve the Stackelberg model by plugging the follower's reaction function into the leader's profit calculation.

Bertrand Paradox

The phenomenon where even with only two firms, price competition for identical products causes them to undercut each other until price equals marginal cost ($P = MC$).

Hotelling’s Linear City

A model illustrating product differentiation where firms locate along a "street" and consumers face transportation costs ($t$) to reach them.

Principle of Maximum Differentiation

The strategy where firms locate as far away from each other as possible to avoid a Bertrand price war and maintain local monopoly power.

Cartel

An agreement between firms to keep prices at monopoly levels, which is often unstable because of the individual temptation to cheat.

Grim Trigger Strategy

A strategy to maintain a cartel where any instance of cheating by a rival triggers a permanent, zero-profit price war.

Discount Factor ($\delta$)

A measure of a firm's patience used to calculate cartel stability; if it exceeds the critical breaking point ($\delta^*$), the cartel survives.

Horizontal Merger

The merger of two direct competitors, which involves a trade-off between lower competition (bad) and lower marginal costs due to shared technology (good).

Williamson Trade-Off

The evaluation of whether the cost savings and efficiencies of a merger outweigh the deadweight loss caused by resulting higher prices.

Vertical Merger

The merger of a company with its supplier or distributor, commonly approved to solve the problem of double marginalization.

Double Marginalization

An inefficiency where both a supplier and a retailer apply separate markups, leading to excessively high prices for consumers and lower total profits for firms.

Arrow’s Replacement Effect

The theory that competitive firms have a stronger incentive to innovate than monopolists, because monopolists merely replace their current high profits whereas startups gain entire new markets.

Drastic Innovation

An innovation so powerful that the new marginal cost allows the innovator to set a monopoly price that is still below the rivals' original costs.

Non-Drastic Innovation

An innovation where the ideal monopoly price is higher than rivals' costs, forcing the inventor to use limit pricing just below the rivals' cost to capture the market.

Patent

A legal monopoly granted to an inventor to allow them to recoup expensive R&D costs, incentivizing innovation despite temporary social deadweight loss.