Microeconomics Exam #3

Chapters 13 - end

Standard Oil (1911)

this company was found to be a monopoly by the US Supreme Court and was broken up

Microsoft (1999)

this company exercised monopoly power and ordered to change business practices

Imperfectly Competitive Industry

individual firms have some control over price, firms have market power

Market Power

an imperfectly competitive firm’s ability to raise price without losing all of the quantity demanded for its product

Oligopoly

small number of firms, each large enough that its presence affects prices

Monopolistic Competition

many producers. differentiated products, free entry, advertising and brand loyalty matter, marketing matters

Monopoly

single firm, product with no close substitutes, long run sustainable profit, market power (can control price but must follow the laws of demand)

Barriers to Entry

• Legal (ex. patents, licenses)

• Ownership of Essential Resource (ex. diamonds, oil)

• Economies of Scale (ex. airplanes)

Regulated/Natural Monopoly

high fixed costs, may make sense for only one company to provide product (ex. electric, water/sewer)

Geographic Monopoly

dependent on location (ex. sports teams)

Near Monopoly

dominance in the market but leaves some room in the market for competitors (ex. Frisbee, Western Union, US Post Office, NCAA)

In Monopoly

the monopolist is the market but must follow the laws of demand, MR does not equal P

Monopoly MR Curve

bisects the area of the demand curve, slope is double the slope of the demand curve

monopolist can sell more units but must lower price to do so

Monopolist Demand Curve

is the monopolist’s average revenue curve, it specifies a price per unit the monopolist receives as a function of output

Demand Curve Equation

P = a + bQ b = change in P / change in Q slope is always negative

MR Curve Equation

MR = a - 2bQ same as demand curve but slope is twice as steep

Three Steps of Monopoly

1. find MR = MC

2. find Q*

3. find P* from demand curve

A Monopolist …

sets both the price and quantity, and the amount of output that it supplies depends on its marginal cost curve and the demand curve it faces

In a Newly Organized Monopoly

the marginal cost curve is the same as the supply curve that represented the behavior of all the independent firms when the industry was organized competitively

Quantity Produced by Monopoly

will be less than the perfectly competitive level of output, and the monopoly price will be higher than the price under competition

Barriers to Entry

factors that prevent new firms from entering and competing in imperfectly competitive industries

Natural Monopoly

an industry that realizes such large economies of scale that single firm production of that good or service is most cost efficient

a firm in which the most efficient scale is very large, average total cost declines until a single firm is producing nearly the entire amount demanded in the market

Patent

a barrier to entry that grants exclusive use of the patented product or process to the inventor

Government Rules

in some cases, governments impose entry restrictions on firms as a way of controlling activity (ex. liquor license)

Ownership of a Scarce Factor of Production

if production requires a particular input and one firms owns the entire supply of that input, that firm will control the industry (ex. diamonds)

Network Externalities

the value of a product to a consumer increases with the number of that product being sold or used in the market (ex. dating apps)

Deadweight Loss/Excess Burden of a Monopoly

the social cost associated with the distortion in consumption from a monopoly price (“economic activity that people don’t get”)

Rent Seeking Behavior

actions taken by firms to preserve economic profits

Government Failure

occurs when the government becomes the tool of the sent seeker and the allocation of resources is made even less efficient by the intervention of the government

Price Discrimination

charging different prices to different buyers for identical products where these price differences are not an inflection of cost differences (ex. college tuition)

Perfect Price Discrimination

occurs when a firm charges the maximum amount that buyers are willing to pay for each unit (“firm gets all of the consumer surplus”)

With Price Discrimination

the objective of the firm is to segment the market into different identifiable groups, with each group having a different elasticity of demand

No Arbitrage Condition

to effectively price discriminate, firms must prevent customers from reselling

Section 1 of The Sherman Antitrust Act (1890)

every contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade or commerce among the several states, or with foreign nations, is hereby declared to be illegal

Section 2 of The Sherman Antitrust Act (1890)

every person who shall monopolize, or attempt to monopolize, or combine or conspire with any other person or persons to monopolize any part of the trade or commerce among the several states, or with foreign nations, shall be deemed guilty of a misdemeanor, and, on conviction thereof, shall be punished by fine not exceeding five thousand dollars, or by imprisonment not exceeding one year, or by both said punishments, in the discretion of the court

Rule of Reason

the criterion introduced by the Supreme Court in 1911 to determine whether a particular action was illegal (“unreasonable”) or legal (“reasonable”) within the terms of the Sherman Act

Clayton Act

passed by Congress in 1914 to strengthen the Sherman Act and clarify the rule of reason, the act outlawed specific monopolistic behaviors such as tying contracts, price discrimination, and unlimited mergers

Federal Trade Commission

a federal regulatory group created by Congress in 1914 to investigate the structure and behavior of firms engaging in interstate commerce, to determine what constitutes unlawful (“unfair”) behavior, and to issue causes and desist orders to those found in violation of antitrust law

Oligopoly

a form of industry (market) structure characterized by a few dominant firms, products may be homogenous or differentiated

Oligopolists

compete with one another not only in price but also in developing new products, marketing and advertising those products, and developing complements to those products

Five Forces Model

a model developed by Michael Porter that helps us understand the five competitive forces that determine the level of competition and profitability in an industry (involves industry competitors/rivalry among existing firms, potential entrants, suppliers, substitutes, and buyers)

Concentration Ratio

the share of industry output in sales or employment account for by the top firms

Contestable Markets

markets in which entry and exit are easy enough to uphold prices to a competitive level even if no entry actually occurs

Cartel

a group of firms that get together and make join price and output decisions to maximize joint profits

Collusion

occurs when price and quantity fixing agreement among producers are explicit (“work together to set price”)

Tacit Collusion

occurs when price and quantity fixing agreement among producers are implicit

Price Leadership

a form of oligopoly in which one dominant firm sets prices and all the smaller firms in the industry follow its pricing policy

Duopoly (Cournot Model)

a two firm oligopoly

Game Theory

analyzes the choices made by rival firms, people, and even governments when they are trying to maximize their own wellbeing while anticipating and reacting to the actions of others in their environment

Dominant Strategy

in game theory, a strategy that is best, no matter what the opposition does

Prisoners’ Dilmma

a game in which the players are prevented from cooperating and in which each has a dominant strategy that leaves them both worse off than if they could cooperate

Nash Equilibrium

in game theory, the result of all players’ playing their best strategy, given what their competitors are doing

Max Min Strategy

in game theory, a strategy chosen to maximize the minimum gain that can be earned

Tit for Tat Strategy

a repeated game strategy in which a player responds in kind to an opponent’s play

Technological Advance

one major source of economic growth and progress throughout history, industrial concentration increases with this rate according to Joseph Schumpeter and John Kenneth Galbraith)

Celler Kefauver Act

extended the government’s authority to control mergers

Herfindahl Hirschman Index

an index of market concentration found by summing the square of percentage shares of firms in the market

HHI > 1,800

concentrated (HHI)

1,800 > HHI > 1,000

moderate concentration (HHI)

HHI < 1,000

unconcentrated (HHI)

High Levels of Concentration

lead to inefficiency so the government should act to improve the situation