Exam 4 in econ201
market power
the extent to which a business/firm/seller can charge a higher price w/o losing many customers
When a seller considers the threat of potential substitutes, what is a substitute product?
Anything that could be consumed in place of a given product to satisfy the need or want of the consumer for the given product.
The following figure shows a business that price discriminates. What range of buyers will be given a discount so that they are induced to buy the good?
Between B and C
Based on the figure, which firm has the most market power?
C
Which of the following is NOT a way to differentiate a product?
Charge a lower price than other companies for a given product
What are the main positive and negative impacts of mergers?
Lower costs and increased market power
reservation price
The maximum price a customer will pay for a product.
According to the Five Forces framework, the greater the _______ in an industry, the ________ the average profits will be in the industry.
greater; lower
Vertical integration occurs in a merger when the companies that merge
had a buyer-seller relationship prior to the merger, with each covering a different stage in a production chain.
When price competition occurs
price is pushed down, reducing profits.
rule
produce up to where MR=MC then charge price according to demand curve
non-price competition
product differentiation
Barriers to entry _______ existing businesses ______.
protect; from competition by new entrants
bargaining power of suppliers
-suppliers of your key inputs may have power (of raw materials,key inputs,workers) to dictate prices or sales -lowers ability to increase mkt power + profitability
Using the figure below, what output and price should the firm choose to maximize profit?
4; $7
Which of the following markets is closest to an example of a perfectly competitive market?
Corn
A product market has one seller and that seller has a high level of market power. There are no close substitutes for the product. What type of market is this?
Monopoly
Which of the following is an example of a company practicing price discrimination?
Most passengers traveling on an airplane pay different prices for their tickets.
How does price discrimination move a market that is not perfectly competitive to a more efficient output level?
Price discrimination gives businesses the incentive to increase output to the level where their marginal cost equals the marginal benefit of their last customer.
What 3 conditions must be present before a company can price discriminate?
The company can identify how much each customer is willing to pay; the product cannot be resold; the company has market power.
market power
extent to which a seller can charge a higher price without losing many sales to competing businesses.
marginal revenue
extra revenue from the sale of one additional unit of output
Perfectly competitive markets are relatively rare in the real world because most
goods are not identical and most markets have some dominant firms.
How does the threat of potential substitutes lessen the market power of a business? If the substitute becomes available, then the business may
lose customers to the substitute good's market unless it lowers price.
Examples of persuasive advertising
movies and dining
monopoly
one seller in market faces entire markets demand curve
Which of the following is NOT an example of a relationship-specific investment that could result in a hold-up problem?
organizing the layout of a factory for the most efficient flow of the production line.
market structures
perfect competition-no mkt power and most competition monopoly- most mkt power and least competitive oligopoly- 2nd most, monopolistic competition- in the middle
how to regulate firms w/ market power (pricing solutions)
regulations to increase/ensure competition -anti collusion regulations to prevent firms from colluding in an agreement to act as one - merger regulations/reviews to prevent firms from combining for mkt power - increase international trade (reduce import taxes/regulations, better trade agreements w/other countries)
hold-up problem
relationship-specific investments (investments more valuable if the relationship continues) - by you give the other side more leverage in negotiating
group pricing examples
restaurants: senior discounts, "early bird" specials home depot: military discounts children's tickets movies: matince apple/dell: student/education discounts
perfect price discrimination
sell product to each customer at exactly their reservation price (charges highest price possible to each customer and make every customer and make every sale to customers up to where reservation price = marginal cost
goal of pricing discrimination
sell product to each customer at their maximum willingness to pay ("reservation price")
marginal cost
the cost of producing one more unit of a good
hold-up problem may lead to under investments. solutions?
1. long-term contracts 2. reputation + repeated interactions 3. vertical integration
A business that price discriminates will likely produce at what output level?
Quantity 3
price discrimination
Selling the same product at different prices. (charge different prices to different customers to increase profit)
vertical consolidation
mergers between firms in the supply
how to maximize profits, choosing price + quantity
need to consider firm's demand (quantity demanded of the firm's product at different prices) curve, marginal revenue curve (change in total revenue from selling one more unit of a good), + marginal cost curve (change in the total cost from selling one more unit of a good)
Bargaining power is a buyer's of seller's ability to
negotiate a deal to its own benefit.
regulations to limit mkt power
- set price ceiling to keep price near at marginal cost - restrict price to some % above marginal cost (can reduce incentive to produce (link price to cost) high quality goods can increase incentive to inflate costs
examples of hold up problems
-locating near biggest customer - integrating systems w/important supplier - investing in special equipment for one customer - training workers in job-specific skills
attract "sticky" customer (more inelastic demand) w/ differentiation along
-quality/performance/reliability - service -design/style -location/convenience -advertising/marketing
how to segment groups
1. Segment your market into groups whose demand differs. 2. Target your group discounts based on verifiable characteristics. 3. Base group discounts based on difficult-to-change characteristics.w/ different demand curves - base group prices/discounts on easily identifiable + verifiable characteristics that are difficult to change
conditions required for price discrimination
1. mkt power 2. difficult for the products to be resold 3. must know customers' demand curve
Using the information in the table below, to maximize profit the firm should choose to produce _____ units of output and a price of ______.
2; $450
In which of the following situations would Allie's Donuts have the greatest market power?
The closest donut shop or bakery is 25 miles away from Allie's.
product positioning/ differentiation tradeoff
demand side: capture as many customers as possible- be similar to competitors supply side: create your own market/niche, fewer customers but sell at higher mark up, more inelastic demand (be different from competitors)
product differentiation
differences in product characteristics to compete between firms reduce the incentive/ability for a competitors to undercut you (increase mkt power, profitability)
In deciding how many segments to divide the market into, a company should look for ways to identify clear segments that have ______ demand.
distinctly different
The threat of entry includes
expansion of existing businesses into the market, the addition of new distribution channels by existing businesses, and new entrants.
tradeoff
firms offer more variety of products tailored to consumers preferences/tastes
What distinguishes persuasive advertising from informative advertising? Persuasive advertising
focuses on emotions and provides few facts about the product.
When a market is perfectly competitive, advertising typically is done _________ because ________.
for the entire industry; it affects market demand more effectively than some individual company demands
example of product identical
gas station prices on a street
potential threats to entry of new competitors
if a market is profitable, firms will want to enter to make $ -entrepreneurs > new startups -expansion of existing firms new entrants- increase supply, decrease price, profitability
A business owner spends on advertising with the intent that it will affect demand for the company's product in what two ways? By
increasing the company's demand and making its demand more inelastic.
Output in a market with market power is
inefficient because the marginal benefit to society of extra output exceeds the marginal cost.
quantity discounts
lower per unit price for buying in bulk ex) 6 pack beer vs 36 pack BJs, sams club, Costco
Negative outcomes of market power include all of the following EXCEPT
lower prices
persuasive advertising
make customers believe they will enjoy the product (Tries to persuade or manipulate you into believe you'll enjoy a particular product)
make vs, buy
make if benefits > costs making eliminates exploitation from suppliers- no hold-up problem - no negotiation/ transaction costs cost: no vertical integration or ability to use own bargaining power
monopolistic competition
many sellers of differentiated products (similar, but different) most consumer goods + service - firms can have little or a lot of mkt power
A seller's demand curve summarizes its _____, and its marginal revenue curve measures its ______.
market power; incentive to increase production
According to the Five Forces framework, how can producers of potential substitute goods impact a company's profits? The producers of potential substitute goods
may become actual competitors, causing market demand to be spread across a larger number of companies and thereby reducing the profits of the original companies.
horizontal consolidation
mergers between firms in the same market/ industry
natural monopoly
most efficient/cheapest/optimal for one firm to produce for the entire market due to huge fixed costs - firms would be unprofitable if pricing at marginal
threats from potential substitutes
new innovation result in substitutes that provide better performance/quality and/or cheaper - more of a threat when customers can easily switch between sellers BUT complements can increase profitability and mkt power
products identical
no differentiation only compete on price price gets driven down to marginal cost
Imperfect competition stems from _____ and whether the product is ______.
the number of sellers; differentiated
search good
A good that you can easily evaluate before buying.
bargaining power of buyers
- buyers w/more power can dictate lower prices
perfect competition
- firms produce identical products - many buyers + sellers such that no one buyer/seller can affect the price - firms take the market price as given, only deciding how much to produce
advertising/marketing
- helpful to position product - increase demand, loyalty (demand more inelastic)
existing competition
- more firms- more competitive
example of bargaining power of buyers
Walmart: buy lots of product but require a low price
Oligopoly
a few firms w/mkt power or most of the mkt share may collude (work together) to operate as a monopolist
The market power of a firm is its
ability to raise its price without losing many of its customers to competing businesses.
A city has 4 hospitals, and there are no other hospitals within 200 miles. Two of the hospitals are specialized -- one has a large cardiac unit and the other has a cancer treatment center. The local market for hospital services can most likely be described as
an oligopoly
when firms have mkt power, they charge above marginal cost + produce less than in perfect competition
bad for consumers
When it is difficult for customers to assess quality prior to consuming a product, they tend to rely on ______ as an indicator of quality.
brand reputation
Why would a seller choose the hurdle method instead of group pricing to price discriminate? The seller
cannot find a verifiable, hard-to-change characteristic on which to base the group segmentation.
examples of informative advertising
cars
group pricing
charge different prices to different group of customers 1. identifiable + verifiable characteristic (age, sex, gender, race/ethnicity, location, time, etc (students, veteran/military,etc) 2. different demand curve
If a company engages in perfect price discrimination, it is attempting to
charge each customer their reservation price.
Price discrimination is when a company
charges different prices to different customers who are are buying the same product.
Product Characteristics
compete for customers by differentiating product, more difficult for competitors to compete on price (likely that firms use a balance of both strategies)
examples of hurdle method
coupons, sales/timing, haggling, discounts for app users
perfect competitive market graph has a
curved marginal cost line
A company will be subject to price competition if
customers view its product as the same as or very similar to the products of rival companies.
Early bird specials at many restaurants are an example of using ______ to create ______.
timing; a hurdle
informative advertising
to tell about the features (Informs potential customers about a product.)
natural monopoly example
utilities (water/sewer,electric, natural gas, etc)
When setting prices for different groups of customers, a manager should charge higher prices for groups that
value the product more
The basis of product differentiation is to convince your customers that your product _______ so that customers will ______ for your firm's product.
will more completely satisfy their wants; pay a higher price
market power can lead to
worse outcomes that may need regulation firms look to exploit + gain mkt power
threat from entrants depends on barriers to entry in the market
- how costly to enter - will there be heavy competition if entering do laws/regulations limit entrance? natural monopoly (huge fixed costs to enter
the need to balance these two consideration (demand side, supply side)
- if price competition is high you could differentiate your product - if price competition is low, appeal to more customers
price competition
easier when products are very similar, prices are readily available, and its easy for buyers to switch between sellers
For effective segmentation of market demand, the basis for putting each customer into a given price segment requires criteria that are _______ and ______.
easy to check; hard to change