Micro Test 3

union model

based on imperfect competition in the labor market where the workers are organized so that employers do not deal directly with the individual workers, but with their unions, who try to raise wage rates in several ways

how do new firms entering the industry affect monopolistic competition?

firms can enter the industry easily and will if the existing firms are making an economic profit. as firms enter the industry, this decreases the demand curve facing an individual firm as buyers shift some demand to new firms; the demand curve will shift until the firm just breaks even. if the demand shifts below the break‑even point (including a normal profit), some firms will leave the industry in the long run. if firms were making a loss in the short run, some firms will leave the industry. this will raise the demand curve facing each remaining firm as there are fewer substitutes for buyers. as this happens, each firm will see its losses diminish until it reaches the break‑even (normal profit) level of output and price.

real wages

the purchasing power of the wage, i.e. the quantity of goods and services that can be obtained with the wage

determinants of resource demand

- a change in price of a substitute resource has two opposite effects: - substitution effect example: lower machine prices decrease demand for labor - output effect example: lower machine prices lower output costs, raise equilibrium output, and increase demand for labor - these two effects work in opposite directions—the net effect depends on magnitude of each effect - change in the price of complementary resource (e.g., where a machine is not a substitute for a worker, but machine and worker work together) causes a change in the demand for the current resource in the opposite direction. (rise in price of a complement leads to a decrease in the demand for the related resource; a fall in price of a complement leads to an increase in the demand for related resource). - changing occupational employment trends

oligopoly

- a market dominated by a few large firms producing a homogeneous or differentiated product - there are few enough firms in the industry that firms are mutually interdependent—each must consider its rivals' reactions in response to its decisions about prices, output, and advertising - some oligopolistic industries produce standardized products (steel, zinc, copper, cement), whereas others produce differentiated products (automobiles, detergents, greeting cards) - although some firms have become dominant as a result of internal growth, others have gained this dominance through mergers

how does monopolistic competition affect product variety?

- a monopolistically competitive producer may be able to postpone the long-run outcome of just normal profits through product development and improvement and advertising. - compared with pure competition, this suggests possible advantages to the consumer - developing or improving a product can provide the consumer with a diversity of choices - product differentiation is at the heart of the tradeoff between consumer choice and productive efficiency. the greater number of choices the consumer has, the greater the excess capacity problem.

how does regulation of monopolies work?

- a regulatory commission may attempt to establish the legal price for the monopolist that is equal to marginal cost at the quantity of output chosen. this is called the "socially optimal price." - setting price equal to marginal cost may cause losses, because public utilities must invest in enough fixed plant to handle peak loads. much of this fixed plant goes unused most of the time, and a price=marginal cost would be below average total cost. - regulators often choose a price equal to average cost rather than marginal cost, so that the monopoly firm can achieve a "fair return" and avoid losses

what are some examples of price discrimination?

- airlines charging higher fares to executive travelers (inelastic demand) than vacation travelers (elastic demand) - long-distance phone service costs more during the day, when businesses must make their calls (inelastic demand), and less at night and on weekends - movie theaters and golf courses vary their charges on the basis of time and age - discount coupons - internationally, firms selling at different prices to customers in different countries

overall assessment of monopolies for considering policy options

- although there are legitimate concerns of the effects of monopoly power on the economy, monopoly power is not widespread, and while research and technology may strengthen monopoly power, over time it is likely to destroy monopoly position - when monopoly power is causing an adverse effect upon the economy, the gov't may choose to intervene on a case-by-case basis

kinked-demand model

- assumes a non-collusive oligopoly - the individual firms believe that rivals will match any price cuts; therefore, each firm views its demand as inelastic for price cuts, which means they will not want to lower prices since total revenue falls when demand is inelastic and prices are lowered - with regard to raising prices, there is no reason to believe that rivals will follow suit because they may increase their market shares by not raising prices. thus, without any prior knowledge of rivals' plans, a firm will expect that demand will be elastic when it increases price. from the total-revenue test, we know that raising prices when demand is elastic will decrease revenue. therefore, the non-colluding firm will not want to raise prices. - this analysis is one explanation of the fact that prices tend to be inflexible in oligopolistic industries

what are the different ways that the union model says unions try to raise wages?

- by increasing the demand for labor, either by trying to increase the price of substitute resources, thus increasing the demand for union workers, e.g., higher minimum wages, or by supporting public actions that reduce the price of a complementary resource, e.g., utility prices - exclusive or craft unions raise wages by restricting the supply of workers, either by large membership fees, long apprenticeships, or forcing employers to hire only union workers - inclusive or industrial unions do not limit membership but try (usually unsuccessfully) to unionize every worker in a certain industry so that they have the power to impose a higher wage than the employers would otherwise pay

why have american workers historically had high productivity?

- capital equipment per worker is high—approximately $126,062 per worker - natural resources have been abundant relative to the labor force in the US - technological advances have been generally higher in the US than in most other nations, and work methods are steadily improving - the quality of american labor has been high because of good education, health and work attitudes

according to marginal productivity theory of resource demand, what determines resource demand?

- demand for products that the resources produce - the productivity of the resource - the market price of the product being produced

obstacles to collusion

- differing demand and cost conditions among firms in the industry - a large number of firms in the industry - the incentive to cheat - recession and declining demand (increasing ATC) - the attraction of potential entry of new firms if prices are too high - antitrust laws that prohibit collusion

determinants of elasticity of resource demand

- ease of resource substitutability: the easier it is to substitute, the more elastic the demand for a specific resource - elasticity of product demand: the more elastic the product demand, the more elastic the demand for its productive resources - resource-cost/total-cost ratio: the greater the proportion of total cost determined by a resource, the more elastic its demand, because any change in resource cost will be more noticeable

what are some barriers to entry into an oligopoly?

- economies of scale may exist due to technology and market share - the capital investment requirement may be very large - other barriers to entry may exist, such as patents, control of raw materials, preemptive and retaliatory pricing, substantial advertising budgets, and traditional brand loyalty

what are the cost complications that may arise in monopolies?

- economies of scale may result in one or two firms operating in an industry experiencing lower ATC than many competitive firms. these economies of scale may be the result of spreading large initial capital cost over a large number of units of output (natural monopoly) or, more recently, spreading product development costs over units of output, and a greater specialization of inputs. - X‑inefficiency may occur in monopoly since there is no competitive pressure to produce at the minimum possible costs - rent‑seeking behavior often occurs as monopolies seek to acquire or maintain gov't‑granted monopoly privileges, and such rent‑seeking may entail substantial costs (lobbying, legal fees, public relations advertising, etc.), which are inefficient

how might an oligopoly lessen economic inefficiency?

- foreign competition has made many oligopolistic industries much more competitive when viewed on a global scale - oligopolistic firms may keep prices lower in the short run to deter entry of new firms - over time, oligopolistic industries may foster more rapid product development and greater improvement of production techniques than would be possible if they were purely competitive

cartels and collusion

- game theory suggests that collusion is beneficial to the participating firms, because it reduces uncertainty, increases profits, and may prohibit the entry of new rivals - a cartel may reduce the chance of a price war breaking out, particularly during a general business recession - to maximize profits, the firms collude and agree to a certain price. assuming the firms have identical cost, demand, and marginal-revenue date the result of collusion is as if the firms made up a single monopoly firm. - cartels are illegal in the US, thus any collusion that exists is covert and secret

what factors influence the union unemployment effect?

- growth in the economy—If demand is increasing, then this shift in labor demand can offset the unemployment effect of the union wage increase - if the demand for the product and/or labor is inelastic, the wage increase will not have as much effect on employment as it would if the demand were elastic

how can lack of access to resources be a barrier to entry into monopolistic industries?

- if one or a small number of firms owns or controls essential resources, it blocks other firms from entry - examples: DeBeers controls most of the world's diamond supplies, professional sports leagues control player contracts and leases on major city stadiums

policy issues concerning income distribution

- income distribution - income tax issues - minimum wage law - agricultural subsidies

how do monopolies affect income distribution?

- income distribution is more unequal than it would be under a more competitive situation, because the effect of the monopoly power is to transfer income from the consumers to the business owners - this will result in a redistribution of income in favor of higher-income business owners, unless the buyers of monopoly products are wealthier than the monopoly owners

what are the 3 models used to explain oligopolistic price-output behavior?

1) the kinked demand model 2) cartels 3) collusion agreements

monopoly demand

- is the industry (market) demand and is therefore downward-sloping - price will exceed marginal revenue because the monopolist must lower the price to sell the additional unit—the added revenue will be the price of the last unit less the sum of the price cuts which must be taken on all prior units of output - the marginal revenue curve is below the demand curve, and when it becomes negative, the total revenue curve turns downward as total revenue falls

what is a monopolistically competitive firm's demand curve like?

- it is highly, but not perfectly, elastic - more elastic than the monopoly's demand curve because the seller has many rivals producing close substitutes - less elastic than in pure competition, because the seller's product is differentiated from its rivals, so the firm has some control over price

monopolies in US

- manufacturing monopolies are virtually nonexistent in nationwide US manufacturing industries - pro sports leagues grant teams monopolies to cities - monopolies may be geographic (small town only has one bank, grocery store, etc.)

competitive labor market model

- numerous firms competing to hire a specific type of labor - many qualified workers with identical skills available to independently supply this type of labor service - "wage taker" behavior that pertains to both employer and employee; neither can control the market wage rate - the market demand is determined by summing horizontally the labor demand curves (the MRP curves) of the individual firms - the market supply will be determined by the amount of labor offered at different wage rates; more will be supplied at higher wages because the wage must cover the opportunity costs of alternative uses of time spent either in other labor markets or in household activities or leisure - the market equilibrium wage and quantity of labor employed will be where the labor demand and supply curves intersect - each individual firm will take this wage rate as given, and will hire workers up to the point at which the market wage rate is equal to the MRP of the last worker hired (according to the MRP=MRC rule) - for each firm, the MRC is constant and equal to the wage because the firm is a "wage taker" and by itself has no influence on the wage in the competitive model

how can game theory be applied to oligopoly behavior?

- oligopoly behavior is similar to a game of strategy, such as poker, chess, or bridge, and each player's action is interdependent with other players' actions, so game theory can be applied to analyze it - a two-firm model or duopoly is used, pricing strategies are classified as high-priced or low-priced, and the profits in each case will depend on the rival's pricing strategy - mutual interdependence is demonstrated by the following: firm X's best strategy is to have a low-price strategy if firm Y follows a high-price strategy. however, firm Y will not remain there, because it is better for firm Y to follow a low-price strategy when firm X has a low-price strategy. each possibility points to the interdependence of the two firms. this is a major characteristic of oligopoly. - another conclusion is that oligopoly can lead to collusive behavior. in the example, both firms could improve their positions if they agreed to both adopt a high-price strategy. however, such an agreement is collusion and is a violation of US anti-trust laws. - if collusion does exist, formally or informally, there is much incentive on the part of both parties to cheat and secretly break the agreement. for example, if firm X can get firm Y to agree to a high-price strategy, then firm X can sneak in a low-price strategy and increase its profits.

what are some legal barriers to entry into a monopolistic industry?

- patents: grant the inventor the exclusive right to produce or license a product for twenty years, and that exclusive right can earn profits for future research, resulting in more patents and monopoly profits - licenses: gov't may grant license to only one or a few firms allowing them to offer a certain service (e.g. radio and TV stations, taxi companies)

what are some types of product differentiation?

- physical (qualitative) - services and conditions accompanying the sale of the product - location - brand names and packaging that lead to perceived differences

how does price leadership work?

- prices are changed only when cost and demand conditions have been altered significantly and industry-wide - impending price adjustments are often communicated through publications, speeches, and so forth. publicizing the "need to raise prices" elicits a consensus among rivals. - the new price may be below the short-run profit-maximizing level to discourage new entrants - price leadership in oligopoly occasionally breaks down and sometimes results in a price war

how do monopolists sometimes create barriers to entry?

- pricing - selective price-cutting - advertising - examples: dentsply, a manufacturer of false teeth, controlled 70% of the market and was found to have illegally prevented distributors from carrying competing brands; microsoft charged higher prices for its windows operating system to computer manufactures featuring netscape navigator instead of internet explorer, which courts then ruled illegal

according to marginal productivity theory of resource demand, what is the rule for employing resources?

- produce where MRP=MRC - to maximize profits, a firm should hire additional units of a resource as long as each unit adds more to revenue than it does to costs

monopolistic competition

- refers to a market situation in which a relatively large number of sellers offer similar but not identical products - each firm has a small percentage of the total market - collusion is nearly impossible with so many firms - firms act independently; the actions of one firm are ignored by the other firms in the industry - similar to pure competition, under monopolistic competition firms can enter and exit these industries relatively easily. trade secrets or trademarks may provide firms some monopoly power. - firms often heavily advertise their goods to communicate product differences, and non-price competition is significant

what is the significance of resource pricing?

- resources must be used by all firms in producing their goods or services; the prices of these resources will determine the costs of production - money incomes are determined by resources supplied by the households; in other words, firm expenditures eventually flow back to the household in the form of wages, rent, and interest

how do monopolies affect technological progress?

- technological progress and dynamic efficiency may occur in some monopolistic industries but not in others (evidence is mixed) - some monopolies have shown little interest in technological progress - on the other hand, research can lead to lower unit costs, which help monopolies as much as any other type of firm, and research can also help the monopoly maintain its barriers to entry against new firms

monopsony model

- the labor supply curve will be upward sloping for the monopsonistic firm; if the firm is large relative to the market, it will have to pay a higher wage rate to attract more labor - as a result, the marginal resource cost will exceed the wage rate in monopsony because the higher wage paid to additional workers will have to be paid to all similar workers employed. therefore, the MRC is the wage rate of an added worker plus the increments that will have to be paid to others already employed. - equilibrium in the monopsonistic labor market will also occur where MRC=MRP, but now the MRC is above the wage, so the wage will be lower than it would be if the market were competitive. as a result, the monopsonistic firm will hire fewer workers than under competitive conditions. - conclusion: in a monopsonistic labor market there will be fewer workers hired and at a lower wage than would be the case if that same labor market were competitive, other things being equal

what is the relationship between the monopolist and demand?

- the monopolist is a price maker—it controls output and price, but is not free of market forces, since the combo of output and price that can be sold depends on demand - price elasticity plays a role: the total revenue test shows that the monopolist will avoid the inelastic segment of its demand schedule - as long as demand is elastic, total revenue will rise when the monopoly lowers its price, but this will not be true when demand becomes inelastic - as demand becomes inelastic, total revenue falls as output expands, and since total costs rise with output, profits will decline; therefore, the monopolist will expand output only in the elastic portion of its demand curve

characteristics of pure monopoly

- the monopolistic firm is a "price maker"—the firm has considerable control over the price because it can control the quantity supplied - entry into the industry by other firms is blocked - a monopolist may or may not engage in non-price competition; depending on the nature of its product, a monopolist may advertise to increase demand

why are public utilities often natural monopolies?

- they have economies of scale in the extreme case where one firm is most efficient in satisfying existing demand - government usually gives one firm the right to operate a public utility industry in exchange for gov't regulation of its power - having more than one firm would be inefficient because, for example, having multiple water or electric companies would result in a maze of wires or pipes

according to marginal productivity theory of resource demand, how does MRC relate to wages?

- under conditions of pure competition in the labor market where the firm is a "wage taker," the wage is equal to the MRC - MRP will be the firm's resource (labor) demand schedule in a competitive resource market because the firm will hire (demand) the number of resource units where their MRC is equal to their MRP. for example, the number of workers employed when the wage (MRC) is $12 will be 2; the number of workers hired when the wage (MRC) is $6 will be 5. in each case, it is the point where the wage (MRC of worker) equals MRP of last worker.

what are 3 misconceptions about monopoly prices?

1) a monopolist can't charge the highest price it can get, because it will maximize profits where total revenue minus total cost is greatest; this depends on quantity sold as well as on price, and will never be the highest price possible 2) total, not unit, prifts is the goal of the monopolist 3) unlike the purely competitive firm, the pure monopolist can continue to receive economic profits in the long run, because although losses can occur in the short run, the less-than-profitable monopolist will shut down in the long run

what are the 3 forms of price discrimination?

1) charging each customer in a single market the maximum price he or she is willing to pay 2) charging each customer one price for the first set of units purchased, and a lower price for subsequent units 3) charging one group of customers one price and another group a different price

steps for graphically determining the profit-maximizing output, profit-maximizing price, and economic profit (if any) in pure monopoly

1) determine the profit-maximizing output by finding where MR=MC 2) determine the profit-maximizing price by extending a vertical line upward from the output determined in step 1 to the pure monopolist's demand curve 3) determine the pure monopolist's economic profit by using one of two methods: a. find profit per unit by subtracting the ATC of the profit-maximizing output from the profit-maximizing price, then multiple the difference by the profit-maximizing output b. find total cost by multiplying the ATC of the profit-maximizing output by that output, then find total revenue by multiplying the profit-maximizing output by the profit-maximizing price, then subtract total cost from total revenue

what are the 2 major arguments in support of minimum wage?

1) minimum-wage laws occur in markets that are not competitive and not static. in a monopolistic market, the minimum wage increases wages with minimal effects on employment. 2) increasing minimum wage may increase productivity, because managers will use workers more efficiently when they have higher wages, and it may reduce labor turnover and thus training costs

what 3 conditions are needed for successful price discrimination?

1) monopoly power is needed with the ability to control output and price 2) the firm must have the ability to segregate the market, to divide buyers into separate classes that have a different willingness or ability to pay for the product (usually based on differing elasticities of demand) 3) buyers must be unable to resell the original product or service

what 3 factors must a monopolistically competitive firm juggle in seeking maximum profit?

1) product attributes 2) product price 3) advertising

what are 2 shortcomings of the concentration ratio?

1) some markets are local rather than national, and a few firms may dominate within the regional market 2) if the four-firm concentration ratio is less than 40%, it's likely to be monopolistically competitive

what are the 2 major criticisms of minimum wage?

1) the minimum wage forces employers to pay a higher than equilibrium wage, so they will hire fewer workers as the wage pushes them higher up their MRP curve 2) the minimum wage is not an effective tool to fight poverty. some minimum wage workers are teens or are from affluent families who do not need protection from poverty.

what 3 assumptions does our analysis of monopoly demand make?

1) the monopoly is secured by patents, economies of scale, or resource ownership 2) the firm is not regulated by any unit of gov't 3) the firm is a single-price monopolist; it charges the same price for all units of output

what are 5 economic effects of a monopoly?

1) they will sell a smaller output and charge a higher price than would competitive producers selling in the same market 2) monopoly price will exceed marginal cost, because it exceeds marginal revenue and the monopolist produces where marginal revenue and marginal cost are equal. the monopolist charges the price that consumers will pay for that output level. 3) allocative efficiency is not achieved because price (what product is worth to consumers) is above marginal cost (opportunity cost of product). ideally, output should expand to a level where price=marginal revenue=marginal cost, but this will occur only under pure competitive conditions where price=marginal revenue. 4) productive efficiency is not achieved because the monopolist's output is less than the output at which average total cost is at its minimum 5) the efficiency (or deadweight) loss is also reflected in the sum of consumer and producer surplus equaling less than the maximum possible value

examples of near monopolies

Central Microprocessors (Intel), First Data Resources (Western Union), Brannock Device Company (shoe sizing devices)

formula for elasticity of resource demand

ERD=% change in resource quantity demanded/% change in resource prices

oligopsony

a market form in which the number of buyers is small while the number of sellers in theory could be large

what is price leadership?

a type of gentleman's agreement that allows oligopolists to coordinate their prices legally; no formal agreements or clandestine meetings are involved. the practice has evolved whereby one firm, usually the largest, changes the price first and then the other firms follow.

what is a concentration ratio?

a way to measure market dominance by measuring the percentage of total industry sales accounted for by the four largest firms

what is the herfindahl index?

a way to measure market dominance by measuring the sum of the squared market shares of each firm in the industry, so that a much larger weight is given to firms with high market shares. a high herfindahl index number indicates a high degree of concentration in one or two firms. a lower index might mean that the top four firms have rather equal shares of the market, for example, 25 percent each (25 squared x 4 = 2,500). a high index might be where one firm has 80 percent of the industry and the others have 6 percent each for a total of 6400 + (6 squared x 3) = 6,508.

why is it hard to evaluate the economic efficiency of an oligopolistic industry?

allocative and productive efficiency are not realized because price will exceed marginal cost and, therefore, output will be less than minimum average-cost output level. informal collusion among oligopolists may lead to price and output decisions that are similar to that of a pure monopolist while appearing to involve some competition.

nominal wages

amount of money received per hour, per day, per week, etc.

how are real wage and nominal wage related?

example: if nominal wages rise by 5% and there is a 3% rate of inflation, then the "real" wage rose only by 2%

how can concentration ratios be used to determine whether or not a market is an oligopoly?

if the concentration ratio is greater than or equal to 40%, then it is considered an oligopoly; however, concentration ratios fail to accurately measure the distribution of power among the leading firms

price discrimination

occurs when a given product is sold at more than one price and the price differences are not based on cost differences

bilateral monopoly model

occurs when a monopsonist employer faces a unionized labor force; in other words, both the employer and employees have monopoly power, so the outcome of the wage is indeterminate and will depend on negotiation and bargaining power

productive efficiency

occurs when price=minimum average total cost, i.e., where production occurs using the least-cost combination of resources

regulated monopoly

occurs where a natural monopoly or economies of scale make one firm desirable

near monopolies

producers of products who have a substantial amount of monopoly power

what makes monopolistic competition different from pure competition?

product differentiation and other types of non-price competition give the individual firm some degree of monopoly power that the purely competitive firm does not possess

examples of pure monopolies

public utilities (gas, electric, water, cable TV, local telephone service companies)

what does the pure monopolist's supply curve look like?

the pure monopolist has no supply curve because there is no unique relationship between price and quantity supplied; the price and quantity supplied will always depend on the location of the demand curve

what does marginal productivity theory of resource demand

that a firm sells its product in a purely competitive product market and hires its resources in a purely competitive resource market

human capital

the accumulated knowledge, know-how, skills, experience, and health that enable a person to be productive and generate income

what is a monopolistically competitive firm's short-run situation?

the firm will maximize profits or minimize losses by producing where marginal cost and marginal revenue are equal, as was true in pure competition and monopoly

what is a monopolistically competitive firm's long-run situation?

the firm will tend to earn a normal profit only, that is, it will break even

according to the competitive labor market model, in what sense is the firm a "wage maker"?

the wage rate the firm pays varies directly with the number of workers it employs

pure monopoly

when a single firm is the sole producer of a product for which there are no close substitutes; therefore the firm and the industry are synonymous

monopsony

when an employer has market power in the labor market, sort of the employer equivalent of a monopoly

when is price discrimination illegal?

when firms use it to lessen or eliminate competition

allocative efficiency

when price=marginal cost, i.e., where the right amount of resources are allocated to the product

collusion

when rival companies in an industry cooperate for their mutual benefit

how are economies of scale a barrier to entry into monopolistic industries that therefore limits competition?

when the lowest unit costs and, therefore, the lowest unit prices for consumers depend on the existence of a small number of large firms, or, in the case of a pure monopoly, only one firm, new firms can't afford to start up, because a very large firm with a large market share is most efficient

what dilemma do regulators face?

whether to choose a socially optimal price, where P=MC, or a fair‑return price, where P=AC. P=MC is most efficient, but may result in losses for the monopoly firm, and government then would have to subsidize the firm for it to survive. P=AC does not achieve allocative efficiency, but does insure a fair return (normal profit) for the firm