Chapter 11 The World of Imperfect Competition - PowerPoint PPT Presentation

Chapter 11

The World of Imperfect Competition

Learning Objectives

• Explain the main characteristics of a monopolistically competitive industry, describing both its similarities and differences from the models of perfect competition and monopoly.
• Explain and illustrate both short-run equilibrium and long-run equilibrium for a monopolistically competitive firm.
• Explain what it means to say that a firm operating under monopolistic competition has excess capacity in the long run and discuss the implications of this conclusion..

• Imperfect competition refers to a market structure with more than one firm in an industry in which at least one firm is a price setter.
• Monopolistic competition refers to a model characterized by many firms producing similar but differentiated products in a market with easy entry and exit.

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• Excess capacity refers to a situation in which a firm operates to the left of the lowest point on its average total cost curve.

• Learning Objectives
• Explain the main characteristics of an oligopoly, differentiating it from other types of market structures.
• Explain the measures that are used to determine the degree of concentration in an industry.
• Explain and illustrate the collusion model of oligopoly.
• Discuss how game theory can be used to understand the behavior of firms in an oligopoly.

• Oligopoly refers to a situation in which a market is dominated by a few firms, each of which recognizes that its own actions will produce a response from its rivals and that those responses will affect it.

• Concentration ratio is the percentage of output accounted for by the largest firms in an industry.
• Herfindahl-Hirschman Indexis an alternative measure of concentration found by squaring the percentage share (stated as a whole number) of each firm in an industry, then summing these squared market shares.

• Duopoly is an industry that has only two firms.
• Overt collusionis when firms openly agree on price, output, and other decision aimed at achieving monopoly profits.
• A Cartel consists of firms that coordinate their activities through overt collusion and by forming collusive coordinating mechanisms.
• Tacit collusion is an unwritten, unspoken understanding through which firms agree to limit their competition.

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• Strategic choice is a choice based on the recognition that the actions of others will affect the outcome of the choice and that takes these possible actions into account.
• Game theoryis an analytical approach through which strategic choices can be assessed.
• A payoff is the outcome of a strategic decision.
• A Dominant strategy is when a player’s best strategy is the same regardless of the action of the other player.
• A Dominant strategy equilibrium is a game in which there is a dominant strategy for each player.

• A tit-for-tat strategy is a situation in which a firm responds to cheating by cheating, and responds to cooperative behavior by cooperating.
• A trigger strategyis a situation in which a firm makes clear that it is willing and able to respond to cheating by permanently revoking an agreement.

• Learning Objectives
• Discuss the possible effects of advertising on competition, price, and output.
• Define price discrimination, list the conditions that make it possible, and explain the relationship between the price charged and price elasticity of demand.

• Firms use advertising when they expect it to increase their profits.
• Advertising could lead to higher prices for consumer by:
• Increased costs shift supply
• Demand shifts
• Advertising and information
• Advertising and competition

• Price discrimination refers to a situation in which a firm changes different prices for the same good or service to different consumers, even though there is no difference in the cost to the firm of supplying these consumers.
• E.g. student and senior discounts on city buses, children’s admission price at movie theater, physicians charging wealthy patients more than they charge poor patients.
• For price discrimination monopoly power is one of three conditions which must be met. The others include:
• A price-setting firm
• Distinguishable customers
• Prevention of resale