Difficulty: 2/3 (A lot of content)
Review: 5/5 (Love the introduction of game theory)
Perfect competition, Monopolistic competition, oligopoly, monopoly. That is the scale of competition, where oligopoly is basically a market controlled by a few firms. It, along with monopolistic competition is known as imperfect competition.
A concentration ratio is the percentage output of a market for the top four firms, i.e. the breakfast cereal has a concentration ratio of 83%.
A duopoly is a market with only 2 firms, hence, 'duo'. When multiple firms cooperate and collude in collusion, they form a cartel. The Nash equilibrium is where one economic participant chooses a strategy based off of the strategies of the other participants. For example, in a duopoly, if profit maximization took place at output of 30 for each of them for a total of 60, and one firm chose to produce at 40, the other firm would choose to find the Nash equilibrium and produce 40 as well.
This tension between cooperation and self-interest causes the price and quantity in an oligopoly market to be in between the socially optimum (competitive) and monopolistic price and quantity.
Each firm makes decisions off of the output effect, raising production by 1 raises profit if price is above marginal cost; and the price effect, since quantity increases, profits decrease on average for all other units sold. Notice that as the oligopoly grows in size (in firms), the price effect disappears and leaves only the output effect and then every firm produces where P = MC. Thus, the more sellers there are in an oligopoly, the more it becomes like a competitive market.
To understand oligopolies, we must understand game theory: the study of how people behave in strategic situations. The prisoner's dilemma highlights the concept of cooperation vs. self-interest. It's where two prisoners choose to confess because whether the other prisoner confesses or not, the prisoner gets a better result if he/she confesses. This happens although the best scenario for the both of them occurs when neither confess. The individual strategy that is best for each player, in this case confessing, is called the dominant strategy.
The prisoner's dilemma relates back to oligopolies because although initially the firms may be outputting at the scenario where profits are maximized for all, a firm will eventually defect because it brings them more profits even though total profits for all decreases. This happens in OPEC, arms races, common resources (like oil drilling, one or two wells?), and more. It seems the best strategy is called tit-for-tat in the long term. A player should start by cooperating and then do whatever the other player did last time, basically, an eye for an eye.
The Sherman Antitrust Act of 1890 (declaring collusion as illegal) and the Clayton Act of 1914 (encourage lawsuits against legitimate economic conspirators) fight mergers and trusts and etc.
There are some other controversial business practices. They are controversial because some business practices that appear to reduce competition may in fact have legitimate purposes. One is resale price maintenance/fair trade, when a firm requires retailers to charge a certain higher price. Some argue that it doesn't allow for the retailer to compete on price, but others argue that the firm wants the retailer to invest more in sales force. Another is predatory pricing, changing prices like attempting to make price cuts in order to knock out rival firms from the market. It seems predatory pricing actually isn't profitable. Finally, there is tying, basically packaging two products together for sale. Some argue that companies pair unwanted products with more popular ones in order to sell more, while others argue that tying doesn't change willingness to pay and that it provides a form of price discrimination.
'Twas a long chapter.
Sunday, November 27, 2016
Wednesday, November 16, 2016
Economics: Monopolistic Competition
Difficulty: 1/3 (many repeated concepts)
Review: 4/5 (average)
Monopolistic competition occurs when there are no barriers to entry, but all firms create different products, e.g. authors and books. Like a monopoly, profit is maximized at MR and MC's intersection point. In the short term, a firm can make profits or losses, but over time, ATC drifts toward price at the profit maximization point, similar to like in competitive markets so they make normal profit.
Excess capacity is the region where ATC continues to decrease as quantity increases, while efficient scale is the point where ATC is minimized. Markup is the difference between marginal cost and price. This makes monopolistically competitive firms more willing to accept customers since P > MC.
When firms enter this type of competition, there is the product-variety externality which is positive as consumers see a new product, while there is also the business-stealing externality, negative as one firm takes customers from another.
Advertising is an example of monopolistic competition, with differentiation between products. Some say advertising is just psychological, impedes competition by paying more for similar goods, etc, while others say that it fosters competition by telling information, make entry easier, etc.
Advertising is also a signal of quality, the more expensive the ad, the better the product usually. There's also brand names. Firms with famous brand names gives them incentive to keep up their good quality, but also allowing them to charge more
Review: 4/5 (average)
Monopolistic competition occurs when there are no barriers to entry, but all firms create different products, e.g. authors and books. Like a monopoly, profit is maximized at MR and MC's intersection point. In the short term, a firm can make profits or losses, but over time, ATC drifts toward price at the profit maximization point, similar to like in competitive markets so they make normal profit.
Excess capacity is the region where ATC continues to decrease as quantity increases, while efficient scale is the point where ATC is minimized. Markup is the difference between marginal cost and price. This makes monopolistically competitive firms more willing to accept customers since P > MC.
When firms enter this type of competition, there is the product-variety externality which is positive as consumers see a new product, while there is also the business-stealing externality, negative as one firm takes customers from another.
Advertising is an example of monopolistic competition, with differentiation between products. Some say advertising is just psychological, impedes competition by paying more for similar goods, etc, while others say that it fosters competition by telling information, make entry easier, etc.
Advertising is also a signal of quality, the more expensive the ad, the better the product usually. There's also brand names. Firms with famous brand names gives them incentive to keep up their good quality, but also allowing them to charge more
Tuesday, November 8, 2016
Economics: Monopoly (not the board game)
Difficulty: 1/3 (Similar concepts compared to the previous chapter)
Review: 4/5 (Could use more explaining why MR is less than P)
A monopoly is created if it is the sole seller of a product without close substitutes- other firms can't enter because of barriers of entry. These entries are (1) a key resource is owned by a single firm, (2) the government gives a single firm exclusive right to produce a good/service like through a copyright or patent, (3) the cost of production makes a single producer more efficient than multiple producers.
Earlier, we discussed natural monopolies. These goods are excludable not rival in consumption. They are also created when a single firm can supply a good/service at a cost lower than with multiple firms. This also means that economies of scale, with more output in the single firm, ATC is minimized; however, when multiple firms are producing, ATC is greater amongst each of them.
The monopoly's demand curve is downward sloping because it is the price maker, and with changes in price the quantity demanded of course changes. On the other hand, as described previously, a competitive firm's demand curve is flat as a price taker.
A monopolist's marginal revenue is always less than the price of the good. This is because the downward sloping demand curve contributes to the marginal revenue decrease as more is produced. Revenue (P x Q) is affected by the output effect when more output is sold, Q is higher, but also the price effect, the price falls, so P is lower.
Profit maximization occurs where marginal cost and marginal revenue intersect. Since marginal revenue is less than demand, the profit maximization point for monopolies results in a quantity less than the equilibrium efficiency point, creating a deadweight loss. Thus, monopolies maximize producer surplus but not total surplus. Note that the only reason why there is a social cost is because of the deadweight loss, the "economic pie" is smaller, not just only skewed towards the producer.
The monopoly's profit can be measured by (P - ATC) * Q where Q is determined by the intersection of MC and MR and P is determined by demand curve at that Q.
There are 4 policies to respond to monopolies the government can do. (1) They can increase competition in the market, with antitrust laws, (2) regulation like setting the price to be marginal cost, (3) public ownership, (4) and doing nothing.
Price discrimination can also be employed by the monopolist, perfect if they know the willingness to pay of every customer and the producer gets all the surplus- effectively removing deadweight loss but giving all surplus to the producer.
Review: 4/5 (Could use more explaining why MR is less than P)
A monopoly is created if it is the sole seller of a product without close substitutes- other firms can't enter because of barriers of entry. These entries are (1) a key resource is owned by a single firm, (2) the government gives a single firm exclusive right to produce a good/service like through a copyright or patent, (3) the cost of production makes a single producer more efficient than multiple producers.
Earlier, we discussed natural monopolies. These goods are excludable not rival in consumption. They are also created when a single firm can supply a good/service at a cost lower than with multiple firms. This also means that economies of scale, with more output in the single firm, ATC is minimized; however, when multiple firms are producing, ATC is greater amongst each of them.
The monopoly's demand curve is downward sloping because it is the price maker, and with changes in price the quantity demanded of course changes. On the other hand, as described previously, a competitive firm's demand curve is flat as a price taker.
A monopolist's marginal revenue is always less than the price of the good. This is because the downward sloping demand curve contributes to the marginal revenue decrease as more is produced. Revenue (P x Q) is affected by the output effect when more output is sold, Q is higher, but also the price effect, the price falls, so P is lower.
Profit maximization occurs where marginal cost and marginal revenue intersect. Since marginal revenue is less than demand, the profit maximization point for monopolies results in a quantity less than the equilibrium efficiency point, creating a deadweight loss. Thus, monopolies maximize producer surplus but not total surplus. Note that the only reason why there is a social cost is because of the deadweight loss, the "economic pie" is smaller, not just only skewed towards the producer.
The monopoly's profit can be measured by (P - ATC) * Q where Q is determined by the intersection of MC and MR and P is determined by demand curve at that Q.
There are 4 policies to respond to monopolies the government can do. (1) They can increase competition in the market, with antitrust laws, (2) regulation like setting the price to be marginal cost, (3) public ownership, (4) and doing nothing.
Price discrimination can also be employed by the monopolist, perfect if they know the willingness to pay of every customer and the producer gets all the surplus- effectively removing deadweight loss but giving all surplus to the producer.
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