SURVEY OF ECONOMICS

1
SURVEY OF ECONOMICS

• LECTURE 12
• LONG-RUN EQUILIBRIUM AND MARKET STRUCTURES

2

• THINKING LIKE AN ECONOMIST
• RETURNS TO SCALE
• RESOURCE ALLOCATION UNDER DIFFERENT
• MARKET STRUCTURES
• MUTUAL INTERDEPENDENCE

3
MARKET STRUCTURES

• MARKET STRUCTURE REFERS TO HOW AN INDUSTRY IS
  ORGANIZED .
• ARE THERE MANY COMPANIES ?
• ARE PRODUCTS HOMOGENEOUS OR DIFFERENTIATED ?
• IS POTENTIAL ENTRY INTO THE INDUSTRY A REAL
  POSSIBILITY ?
• IS ENTRY BLOCKED BY ECONOMIC OR REGULATORY
  BARRIERS?

4
MARKET STRUCTURES

• BARRIERS TO ENTRY
• GOVERNMENT POLICIES
• OWNERSHIP RIGHTS
• INFORMATION
• ECONOMIES OF SCALE
• SUNK COSTS

5
MARKET STRUCTURES

• MARKET STRATEGIES
• PREDATORY PRICING
• EXCESS CAPACITY
• LIMIT PRICE
• DOMINANT FIRM
• PRICE LEADERSHIP

6
MARKET STRUCTURES AND THE DEGREE OF COMPETITION
NO COMPETITION
MONOPOLY PRICE- MAKER
7
MARKET STRUCTURES AND THE DEGREE OF COMPETITION
COMPETITION AMONG THE FEW
NO COMPETITION
MONOPOLY PRICE- MAKER
OLIGOPOLY
8
MARKET STRUCTURES AND THE DEGREE OF COMPETITION
COMPETITION ON THE BASIS OF PRODUCT
DIFFERENTIATION
COMPETITION AMONG THE FEW
NO COMPETITION
MONOPOLISTIC COMPETITION
MONOPOLY PRICE- MAKER
OLIGOPOLY
9
MARKET STRUCTURES AND THE DEGREE OF COMPETITION
COMPETITION ON THE BASIS OF PRODUCT
DIFFERENTIATION
AUCTION-TYPE COMPETITION AMONG PRICE- TAKERS
COMPETITION AMONG THE FEW
NO COMPETITION
MONOPOLISTIC COMPETITION
PERFECT COMPETITION
MONOPOLY PRICE- MAKER
OLIGOPOLY
10
MARKET STRUCTURES AND THE DEGREE OF COMPETITION
COMPETITION ON THE BASIS OF PRODUCT
DIFFERENTIATION
AUCTION-TYPE COMPETITION AMONG PRICE- TAKERS
COMPETITION AMONG THE FEW
NO COMPETITION
MONOPOLISTIC COMPETITION
PERFECT COMPETITION
MONOPOLY PRICE- MAKER
OLIGOPOLY
IMPERFECT COMPETITION BARRIER TO ENTRY
11
OVERVIEW OF PERFECTLY COMPETITIVE MARKET
STRUCTURE
PRICE TAKERS
12
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE

P 44,444
TR
P 40,OOO
P 36,OOO
TR AT LOWER PRICE
Q
13
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE

P 44,444
TR
P 40,OOO
THE PRICE TAKING FIRM FACES A LINEAR
TOTAL REVENUE FUNCTION
Q
14
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE

TR
400,000
360,000
Q
9
15
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE

TR
400,000
360,000
Q
9
10
16
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE

TR
400,000
DTR40,000
360,000
DQ 1
Q
9
10
17
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE
MR DTR/DQ 40,000/1 MR
40,000 PMR 40,000 PAR 40,000

TR
400,000
DTR40,000
360,000
DQ 1
Q
9
10
18
PRODUCTION DECISIONS FOR PERFECTLY COMPETITIVE
FIRMS

• REVENUES FOR A COMPETITIVE FIRM

TR AT HIGHER PRICE
MR DTR/DQ 40,000/1 MR 40,000 PMR
40,000 PAR 40,000

SLOPE OF THE TR FUNCTION
TR
400,000
DTR40,000
360,000
DQ 1
Q
9
10
19
PROFIT MAXIMIZATION
TC
TR

90,000
Q
Q0
20
PROFIT MAXIMIZATION
TC
TR

TR
TC
FC
Q
Q0
Q1
21
PROFIT MAXIMIZATION
TC
TR

TR
TC
FC
Q
Q0
Q1
22
PROFIT MAXIMIZATION
TC
TR

TR
TC
TANGENT REPRESENTS THE SLOPE OF THE TOTAL COST
CURVE WHICH IS THE MARGINAL COST
FC
Q
Q0
Q1
23
COMPETITIVE SUPPLY CURVE
MC W/MPL

P2 MR2
Remember the definition of the supply function
Qs f (P) Relationship between price and
quantity.
P1 MR1
Q
Q1
Q2
24
COMPETITIVE SUPPLY CURVE A DEFINITION
MC W/MPL

P2 MR2
P2 MR2 MC2
P1 MR1
P1 MR1 MC1
Q
Q1
Q2
25
FIRMS COST FUNCTIONS
26
MC
AC OR ATC

AVC
P
MR AR
Q
27
MC
AC OR ATC

AVC
P
MR AR
Optimum Output MR MC Profit maximization or
loss minimization
Q
Q
28
MC
AC OR ATC

AVC

P
MR AR
?
Q
Q
29
MC
AC OR ATC

AVC

P
MR AR
FIXED COST PER UNIT
Q
Q
30
MC
AC OR ATC

AVC

P
MR AR
AFC
Q
Q
31
IS THIS COMPANY MAKING A PROFIT OR LOSS IN THE
SHORT-RUN ?
32
MC
AC OR ATC

AVC
TOTAL LOSS
P
MR AR
Q
Q
0
33
WOULD THE COMPANY CONTINUE TO OPERATE IN THE
SHORT-RUN ? YES ---- NO ----
34
WHY ?
35
MC
AC OR ATC

AVC
P
MR AR
CONTRIBUTION TO FIXED COST
Q
Q
0
36
MC
AC OR ATC

AVC
P
MR AR
TOTAL COST
Q
Q
37
MC
AC OR ATC

AVC
P
MR AR
TOTAL COST
TOTAL REVENUE
Q
Q
38
MC
AC OR ATC

AVC
TOTAL LOSS
P
MR AR
CONTRIBUTION TO FIXED COST
TOTAL COST
Q
Q
39
MC
AC OR ATC

AVC
THIS FIRM WOULD PRODUCE IN THE SHORT - RUN ?
TOTAL LOSS
P
MR AR
CONTRIBUTION TO FIXED COST
TOTAL COST
Q
Q
40
MC
AC OR ATC

AVC
THIS FIRM WOULD PRODUCE IN THE SHORT - RUN ? YES
TOTAL LOSS
P
MR AR
CONTRIBUTION TO FIXED COST
TOTAL COST
Q
Q
41
MC
AC OR ATC

AVC
P
MR AR
Q
Q
0
42
MC
AC OR ATC

AVC
Fixed Cost
P
MR AR
Q
Q
0
43
MC
AC OR ATC

AVC
Fixed Costs
P
MR AR
Variable Costs
Q
Q
0
44
MC
AC OR ATC

AVC
P
MR AR
WOULD THIS COMPANY EXIT THE INDUSTRY IN THE
SHORT-RUN ?
Q
Q
0
45
MC
AC OR ATC

AVC
P
MR AR
WOULD THIS COMPANY EXIT THE INDUSTRY IN THE
SHORT-RUN ? YES
Q
Q
0
46
COMPETITIVE FIRMS SUPPLY CURVE
MC
P
AVC
Q
47
COMPETITIVE FIRMS SUPPLY CURVE
MC
P
AVC
P1
Q
Q1
48
COMPETITIVE FIRMS SUPPLY CURVE
MC
P
AVC
P2
P1
Q
Q1
Q2
49
COMPETITIVE FIRMS SUPPLY CURVE
MC
P
AVC
P2
P1
SHUTDOWN POINT
Q
Q1
Q2
50
MARKET SUPPLY CURVE
S MCM
MC1
MC2


P1 2
12
4
8
51
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52
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53
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54
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55
IMPERFECTLY COMPETITIVE MARKET STRUCTURES

• REMINDER SOURCES OF MARKET IMPERFECTIONS
• NUMBER OF FIRMS
• PRODUCT DIFFERENTIATION
• BARRIERS TO ENTRY
• MARKET STRATEGIES
• INFORMATION
• TECHNOLOGY

56
IMPERFECTLY COMPETITIVE MARKET STRUCTURES

• REMINDER SOURCES OF MARKET IMPERFECTIONS
• NUMBER OF FIRMS
• PRODUCT DIFFERENTIATION
• BARRIERS TO ENTRY
• MARKET STRATEGIES
• INFORMATION
• TECHNOLOGY

57
MONOPOLY
58
MONOPOLY MARKET STRUCTURE

• MONOPOLISTS DEMAND CURVE

P
D
Q
59
MONOPOLY MARKET STRUCTURE

• MONOPOLISTS DEMAND CURVE

THE MONOPOLISTS DEMAND CURVE IS THE MARKET
DEMAND CURVE
P
D
Q
60
MONOPOLY MARKET STRUCTURE

• MONOPOLISTS DEMAND CURVE

THE MONOPOLISTS DEMAND CURVE IS THE MARKET
DEMAND CURVE
P
P1
P2
D
Q
Q1
Q2
61
MONOPOLY MARKET STRUCTURE

• MONOPOLISTS DEMAND CURVE

THE MONOPOLISTS DEMAND CURVE IS THE MARKET
DEMAND CURVE
P
P1
P2
D
Q
Q1
Q2
62
MONOPOLISTS TOTAL REVENUE FUNCTION

TR
Q
63
MONOPOLISTS TOTAL REVENUE FUNCTION
MR 0

MR lt 0
TR
MR gt 0
Q
64
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65
PROFIT MAXIMIZATION

TC
TR
PROFIT
Q
66
MC

AC
P
AC
D
MR
Q
0
Q
67
MC

AC
P
AC
D
MR
Q
0
Q
68
MC

AC
P
MONOPOLY PROFIT
AC
D
MR
Q
0
Q
69
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70
CLASS EXERCISE
TOTAL REVENUE
MARGINAL REVENUE
MARGINAL COST 2.00 2.00 2.00 2.00 2.00
PRICE 4.00 3.50 3.00 2.50 2.00
QUANTITY 400 800 1,400 2,800 4,000
FIXED COST 1000
71
CLASS EXERCISE
TOTAL REVENUE 1600
MARGINAL REVENUE 4.00
MARGINAL COST 2.00 2.00 2.00 2.00 2.00
PRICE 4.00 3.50 3.00 2.50 2.00
QUANTITY 400 800 1,400 2,800 4,000
72
CLASS EXERCISE
TOTAL REVENUE 1600
MARGINAL REVENUE 4.00
MARGINAL COST 2.00 2.00 2.00 2.00 2.00
PRICE 4.00 3.50 3.00 2.50 2.00
QUANTITY 400 800 1,400 2,800 4,000
Remember MR DTR / DQ
73
CLASS EXERCISE
TOTAL REVENUE 1,600 2,800 4,200 7,000 8,000
MARGINAL REVENUE 4.00 3.00 2.33 2.00 0.83
MARGINAL COST 2.00 2.00 2.00 2.00 2.00
PRICE 4.00 3.50 3.00 2.50 2.00
QUANTITY 400 800 1,400 2,800 4,000
74
WHAT IS THE OPTIMAL LEVEL OF OUTPUT FOR THIS FIRM
?
75
CLASS EXERCISE
TOTAL REVENUE 1,600 2,800 4,200 7,000 8,000
MARGINAL REVENUE 4.00 3.00 2.33 2.00 0.83
MARGINAL COST 2.00 2.00 2.00 2.00 2.00
PRICE 4.00 3.50 3.00 2.50 2.00
QUANTITY 400 800 1,400 2,800 4,000
76
WHAT IS THE FIRMS PROFIT AT THE OPTIMAL LEVEL
OF PRODUCTION ?
77
CLASS EXERCISE
TOTAL REVENUE 1,600 2,800 4,200 7,000 8,000
MARGINAL REVENUE 4.00 3.00 2.33 2.00 0.83
MARGINAL COST 2.00 2.00 2.00 2.00 2.00
PRICE 4.00 3.50 3.00 2.50 2.00
QUANTITY 400 800 1,400 2,800 4,000
PROFIT TR - TC (2.50 2800) - 2.00(2800)
1000 400 SUPPOSE FIXED COST
FALLS TO 500, WHAT IS THE FIRMS PROFIT ?
DOES THE CHANGE IN FIXED COST EFFECT THE
OPTIMUM LEVEL OF OUTPUT?
78
Problems Here
79
MONOPOLY OUTPUT AND THE ELASTICITY OF DEMAND
80
MC
P MC
PM
D
MR
QM
QC
81
MC
PM
P MC
PC
D
MR
QM
QC
82
DRAWBACKS OF MONOPOLY
83
MC
PM
HIGHER PRICE
PC
RESTRICTED OUTPUT
D
MR
QM
QC
84
IMPACT OF MONOPOLY ON THE CONSUMER SURPLUS
85
CONSUMER SURPLUS UNDER COMPETITION
PM
MC
PC
D
MR
QM
QC
86
PM
MC
PC
D
MR
QM
QC
87
CONSUMER SURPLUS
PM
DEAD WEIGHT LOSS
MC
PC
MONOPOLY PROFIT
D
MR
QM
QC
88
MC AVC So, TVC 15 Q
89
LONG-RUN ADJUSTMENTS IN MONOPOLIZED AND
COMPETITIVE MARKETS
90
PURE MONOPOLY STRUCTURE
91
LONG-RUN ADJUSTMENTIN A COMPLETELY MONOPOLIZED
MARKET
LAC
LMC
PM
D
MR
QM
92
LONG-RUN ADJUSTMENTIN A COMPLETELY MONOPOLIZED
MARKET
LAC
LMC
PM
LONG-RUN ECONOMIC PROFIT
D
MR
QM
93
PURELY COMPETITIVE STRTUCTURE
94
LONG-RUN ADJUSTMENT IN COMPETITIVE MARKETS
S
P
LMC
LAC
d
P1
Q
q
FIRM
INDUSTRY
95
LONG-RUN ADJUSTMENT IN COMPETITIVE MARKETS
S
P
LMC
LAC
d
P1
ECONOMIC PROFIT
Q
q
FIRM
INDUSTRY
96
LONG-RUN ADJUSTMENT IN COMPETITIVE MARKETS
NEW FIRMS ENTER
S
S
P
LMC
LAC
d
P2
ECONOMIC PROFITS
Q
q
FIRM
INDUSTRY
97
LONG-RUN ADJUSTMENT IN COMPETITIVE MARKETS
NEW FIRMS ENTER
S
S
P
LMC
LAC
d
Pn
Q
q
FIRM
INDUSTRY
98
LONG-RUN ADJUSTMENT IN COMPETITIVE MARKETS
S
P
LMC
LAC
d
Pn
Q
q
FIRM
INDUSTRY
99
LONG-RUN ADJUSTMENT IN COMPETITIVE MARKETS
S
P
LMC
LONG-RUN COMPETITIVE EQUILIBRIUM P MC MARGINAL
SOCIAL BENEFITS MARGINAL SOCIAL COSTS
LAC
d
Pn
Q
q
FIRM
INDUSTRY
100
MONOPOLISTICALLY COMPETITIVE STRUCTURE
101
LONG-RUN ADJUSTMENTUNDER MONOPOLISTIC COMPETITIVE
LAC
LMC
PMC
ECONOMIC PROFIT
D
MR
QMC
102
LONG-RUN ADJUSTMENTUNDER MONOPOLISTIC COMPETITIVE
LAC
LMC
PMC
ECONOMIC PROFIT
D
MR
QMC
103
LONG-RUN ADJUSTMENTUNDER MONOPOLISTIC COMPETITIVE
LAC
LMC
PMC
D
QMC
MR
104
LONG-RUN ADJUSTMENTUNDER MONOPOLISTIC COMPETITIVE
LAC
LMC
PMC
PC
D
QMC
QC
MR
105
A NOTE ON ECONOMIES OF SCALE
INCREASING RETURNS TO SCALE
LAC

DECREASING RETURNS TO SCALE
CONSTANT RETURNS TO SCALE
OUTPUT
106
REMEMBER

• DIMINISHING RETURNS OCCURS WHEN A VARIABLE INPUT
  IS ADDED TO A FIXED INPUT.
• RETURNS TO SCALE OCCURS WHEN ALL INPUTS ARE
  VARIABLE. BOTH INPUTS ARE INCREASED.

107
OLIGOPOLISTIC STRUCTURE
108
OLIGOPOLISTIC MARKETS

• OLIGOPOLY MEANS COMPETITION AMONG THE FEW . IT
  MEANS INTERDEPENDENT DECISIONS.
• THE KEY ISSUE FOR OLIGOPOLISTS IS WHETHER THEY
  WILL EARN HIGHER PROFITS BY COLLUDING AND ACTING
  JOINTLY OR BY ENGAGING RIVALS DIRECTLY VIA PRICE
  COMPETITION.
• OLIGOPOLIST CAN ONLY GUESS THE BEHAVIOR OF RIVALS.

109

• COLLUSION MEANS THAT OLIGOPOLISTS ACT TOGETHER
  AS A MONOPOLY WOULD , THAT IS
• THEY PRODUCE THE MONOPOLY OUTPUT OR THE SO-CALLED
  JOINT PROFIT MAXIMIZATION LEVEL OF OUTPUT.
• THEY CHARGE THE MONOPOLY PRICE AND
• THEY DISTRIBUTE THE PROFITS THROUGH SOME
  ALLOCATION SCHEME.

110

• CARTEL IS A GROUP OF COMPANIES - OLIGOPOLISTS
  ACTING TOGETHER TO MAXIMIZE PROFITS.

111
CARTEL

• IDEAL CARTEL acts as a monopoly producer and sets
  the monopoly price.

MCcartel
Cartel Price
P
D
MR
Q
Cartel Output
112
PROBLEMS OF SELF-ENFORCEMENT FREE RIDING A
MEMBER OF THE CARTEL TAKES ADVANTAGE OF THE
CARTELS HIGH PRICE BY INCREASING OUTPUT WHILE
OTHER MEMBERS OF THE CARTEL ACT ACCORDING TO THE
CARTEL AGREEMENT.
113

• EXCESS CAPACITY A MEMBER MAY HAVE EXCESS
  CAPACITY AT THE ALLOCATION LEVEL . THIS SITUATION
  MAY LEAD TO QUANTITY DISCOUNTS TO INCREASE OUTPUT
  AND PROFITS.

PC
FREE RIDER PRICE
MC
DC
MRC
QC
114
OLIGOPOLY MARKET STRUCTURES LEAD TO STRATEGIC
BEHAVIOR
115
GAME THEORY THE PRISONER DILEMMA
Professor Bonks Make-up Test
116
GAME THEORY THE PRISONER DILEMMA

• PARTICIPANTS
• STRATEGIES
• PAY-OFFS
• RULES OF THE GAME
• GAME THEORY ASSUMES THAT EACH PARTICIPANT IN THE
  GAME IS RATIONAL AND KNOWS THAT HER/HIS RIVAL IS
  RATIONAL ACT IN THEIR SELF-INTEREST .

117

• PAY-OFF MATRIX

118

• PAY-OFF MATRIX

PARTICIPANT 1
119

• PAY-OFF MATRIX

PARTICIPANT 1
P A R T I C I P A N T 2
120

• PAY-OFF MATRIX

PARTICIPANT 1
STRATEGIES 1
P A R T I C I P A N T 2
S T R A T E G I E S 2
121

• PAY-OFF MATRIX

PARTICIPANT 1
STRATEGIES 1
P A R T I C I P A N T 2
S T R A T E G I E S 2
PAY-OFFS
122

• PAY-OFF MATRIX

PARTICIPANT 1
STRATEGIES 1
P A R T I C I P A N T 2
S T R A T E G I E S 2
PAY-OFFS
RULES OF THE GAME
123
PRISONERS DILEMMA
124

• PAY-OFF MATRIX

PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
CONFESSES
REMAIN SILENT
125

• PAY-OFF MATRIX

PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
A GETS 3 YEARS B GETS 3 YEARS
CONFESSES
REMAIN SILENT
126

• PAY-OFF MATRIX

PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
A GETS 3 YEARS B GETS 3 YEARS
CONFESSES
A GETS 5 YEARS B GETS 3 MONTHS
REMAIN SILENT
127

• PAY-OFF MATRIX

PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
A GETS 3 YEARS B GETS 3 YEARS
A GETS 3 MONTHS B GETS 5 YEARS
CONFESSES
A GETS 5 YEARS B GETS 3 MONTHS
REMAIN SILENT
128

• PAY-OFF MATRIX

PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
A GETS 3 YEARS B GETS 3 YEARS
A GETS 3 MONTHS B GETS 5 YEARS
CONFESSES
A GETS 5 YEARS B GETS 3 MONTHS
A GETS 1 YEAR B GETS 1 YEAR
REMAIN SILENT
129

• PAY-OFF MATRIX

Dominant Strategy best strategy no matter what
the other player does.
PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
A GETS 3 YEARS B GETS 3 YEARS
A GETS 3 MONTHS B GETS 5 YEARS
CONFESSES
A GETS 5 YEARS B GETS 3 MONTHS
A GETS 1 YEAR B GETS 1 YEAR
REMAIN SILENT
130

• PAY-OFF MATRIX

Dominant Strategy best strategy no matter what
the other player does.
PRISONER B
STRATEGIES
P R I S O N E R A
CONFESSES
REMAIN SILENT
S T R A T E G I E S
A GETS 3 YEARS B GETS 3 YEARS
A GETS 3 MONTHS B GETS 5 YEARS
CONFESSES
A GETS 5 YEARS B GETS 3 MONTHS
A GETS 1 YEAR B GETS 1 YEAR
REMAIN SILENT
Pareto Dominant Strategy
131

• From the standpoint of the two prisoners, the
  best outcome is that they both remain silent and
  each serve their one year term.
• However, the self-interest of each individual
  prisoner indicates that confession is best
  whether their cohort in crime confesses or not.
• Nevertheless, if they both act in their own
  self-interest and confess, they both end up worse
  off.
• Both would be better off if they could get
  together ( collude ) to agree on a story, and to
  threaten the other if she deviated from the
  story.

132
DUOPOLISTS AS PRISONERS IN A MARKET GAME
133

• PAY-OFF MATRIX

OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
CHEAT
DO NOT CHEAT
134

• PAY-OFF MATRIX

OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
A GAINS NO ADVANTAGE ON B B GAINS NO
ADVANTAGE ON A
CHEAT
DO NOT CHEAT
135

• PAY-OFF MATRIX

OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
A GAINS AN ADVANTAGE ON B B LOSES MARKET
SHARE TO A
A GAINS NO ADVANTAGE ON B B GAINS NO
ADVANTAGE ON A
CHEAT
DO NOT CHEAT
136

• PAY-OFF MATRIX

OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
A GAINS AN ADVANTAGE ON B B LOSES MARKET
SHARE TO A
A GAINS NO ADVANTAGE ON B B GAINS NO
ADVANTAGE ON A
CHEAT
B GAINS AN ADVANTAGE ON A A LOSES MARKET
SHARE TO B
DO NOT CHEAT
137

• PAY-OFF MATRIX

OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
A GAINS AN ADVANTAGE ON B B LOSES MARKET
SHARE TO A
A GAINS NO ADVANTAGE ON B B GAINS NO
ADVANTAGE ON A
CHEAT
B GAINS AN ADVANTAGE ON A A LOSES MARKET
SHARE TO B
A SPLITS JOINT MAX. PROFITS B SPLITS JOINT
MAX. PROFITS
DO NOT CHEAT
138

• PAY-OFF MATRIX

Dominant Strategy best strategy no matter what
the other player does.
OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
A GAINS AN ADVANTAGE ON B B LOSES MARKET
SHARE TO A
A GAINS NO ADVANTAGE ON B B GAINS NO
ADVANTAGE ON A
CHEAT
B GAINS AN ADVANTAGE ON A A LOSES MARKET
SHARE TO B
A SPLITS JOINT MAX. PROFITS B SPLITS JOINT
MAX. PROFITS
DO NOT CHEAT
139
WHAT IF THE TWO FIRMS COULD GET TOGETHER SO TO
SPEAK, THEN WHICH STRATEGY WOULD THEY SELECT ?
140

• PAY-OFF MATRIX

OLIGOPOLIST B
STRATEGIES
OLIGOPOLIST A
CHEAT
DO NOT CHEAT
S T R A T E G I E S
A GAINS AN ADVANTAGE ON B B LOSES MARKET
SHARE TO A
A GAINS NO ADVANTAGE ON B B GAINS NO
ADVANTAGE ON A
CHEAT
B GAINS AN ADVANTAGE ON A A LOSES MARKET
SHARE TO B
A SPLITS JOINT MAX. PROFITS B SPLITS JOINT
MAX. PROFITS
DO NOT CHEAT
Pareto Dominant Strategy
141
Cournot Output Follower SituationThe Classic
Duopoly Model
142

• Assume MC 0
• Dm total market demand
• ON competitive level of output
• OM monopoly level of output
• Mineral water is a homogeneous product
  identical mineral springs.
• Each assumes the other will not change output
  the firms are output followers
• Firm A enters the market first and then firm B
  reacts.

143
DUOPOLY OUTPUT-FOLLOWER CASE
Price
Dm
MC
0
N
M
Output
144
DUOPOLY OUTPUT-FOLLOWER CASE
Price
ON is the Competitive Output Position where P MC
OM is the Monopoly Output where MR MC
Dm
MC
0
N
M
Output
145
DUOPOLY OUTPUT-FOLLOWER CASE
Price
Reduced Demand Curve In Second Round
Dm
MC
½ M
0
N
M ½ N
Output
146
INTERACTIVE RESPONSES BETWEEN FIRMS
FIRM A ENTERS THE MARKET AND PRODUCES 1 / 2 ON
OM
147
Bs Reaction
Bs Assumption
As Assumption
As Reaction
148
Bs Reaction
Bs Assumption
As Assumption
As Reaction
WHAT IS Bs RESPONSE ?
149
Bs Reaction
Bs Assumption
As Assumption
As Reaction
150
Bs Reaction
Bs Assumption
As Assumption
As Reaction
WHAT IS As RESPONSE ?
151
Bs Reaction
Bs Assumption
As Assumption
As Reaction
152
Bs Reaction
Bs Assumption
As Assumption
As Reaction
WHAT IS Bs RESPONSE ?
153
Bs Reaction
Bs Assumption
As Assumption
As Reaction
WHAT IS As RESPONSE ?
154
Bs Reaction
Bs Assumption
As Assumption
As Reaction
155
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156
PROBLEMS OF COORDINATION

• TACIT COLLUSION -- IMPLICIT AGREEMENT RESULTING
  FROM MARKET INTERACTION
• PRICE LEADERSHIP -- FORM OF TACIT COLLUSION
• FACILITATING PRACTICES -- MEETING THE
  COMPETITION CLAUSE , SHARING RESEARCH FINDINGS ,
  INVENTORIES , AND OTHER INFORMATION

157
PROBLEMS OF ENTRY

• ENTRY -- RAISING THE PRICE ABOVE MARGINAL COSTS
  ATTRACTS NEW FIRMS TO THE INDUSTRY
• POTENTIAL ENTRY -- POSSIBILITY THAT IF THE PRICE
  CHARGED YIELDS EXTRA-NORMAL PROFITS NEW FIRMS
  WILL ENTER THE INDUSTRY.
• CONTESTABLE MARKETS -- MARKETS WHERE THE COST OF
  ENTRY AND EXIT ARE LOW -- LOW SUNK COST

158
STOP
Market Structures Ends Here
159
COMPETITION BETWEEN DUOPOLISTS

• COURNOT COMPETITION IN THIS CASE DUOPOLISTS ACT
  AS OUTPUT FOLLOWERS i.e., EACH DUOPOLISTS
  RESPONDS TO THE OTHERS OUTPUT ASSUMING THAT THE
  OUTPUT OF THEIR RIVAL IS FIXED.
• BERTRAND COMPETITION EACH DUOPOLISTS TRY TO
  MAXIMIZE PROFITS ON THE ASSUMPTION THAT THEIR
  RIVALS PRICES ARE FIXED.

160

• KINKED DEMAND CURVE A DUOPOLISTS RIVAL MATCHES
  PRICE CUTS BUT NOT PRICE INCREASES.
• THE DUOPOLIST BELIEVES THAT NOT MUCH CAN BE
  GAINED BY LOWERING PRICES BECAUSE THEIR RIVAL
  WILL MATCH ALL PRICE DECREASES. HOWEVER ,
  CONSIDERABLE LOSSES WILL OCCUR IF PRICES ARE
  RAISED BECAUSE THEIR RIVAL WILL NOT FOLLOW A
  PRICE INCREASE.

161
COURNOT OUTCOME
MCdu
P0
DM
Ddu
MRdu
Q0
Q1
162
COURNOT OUTCOME
MCdu
P0
DM
Ddu
MRdu
Q0
Q1
DUOPOLISTS OUTPUT
163
COURNOT OUTCOME
MCdu
P0
DM
Ddu
MRdu
Q0
Q1
DUOPOLISTS OUTPUT
RIVALS COMMITTED OUTPUT
164
BERTRAND OUTCOME
MCdu
P0
DM
Ddu
MRdu
Q0
165
KINKED DEMAND CURVE
MC2
P1
MC1
D
MR
Q1