Principles of Microeconomics Test 3

if the public utility commission allows a water company to earn a normal profit, then it is enforcing an _____ rule

average cost pricing

barriers to entry

business practices or conditions that make it difficult for new firms to enter the market

market structure analysis

by observing a few industry characteristics, we can predict pricing and output behavior

economies of scale

factors that cause a producer's average cost per unit to fall as output rises occur when firms must incur large fixed costs

perfect competition: short run

firm faces a perfectly *elastic* demand curve for its product - If a firm tried to sell above this set price then it will sell nothing as buyers know the market price and no there is no quality difference - Firms can sell as much output as it likes at that price - so there is no incentive to set a price lower the short run *marginal cost curve* represents the firms' short run *supply curve* = It shows the quantity of output that the firm would supply at any given price - The SRSC is the MC curve above the point where it cuts AVC

perfect competition: long run

in the long run firms are attracted into the industry if the incumbent firms are making supernormal profits this is because there are no barriers to entry and because there is perfect knowledge the effect of this entry into the industry is to shift the industry supply curve to the right, which drives down price until the point where all super-normal profits are exhausted if firms are making losses, they will leave the market as there are no exit barriers, and this will shift the industry supply to the left, which raises price and enables those left in the market to derive normal profits

three forms of price discrimination

perfect (first-degree), second-degree, third-degree

when firm x sells 3 units of product z, its marginal revenue is $4.67. when it sells 100 units, marginal revenue is $4.67. the firm most likely operates in which market structure?

perfect competition

types of market structure

perfect competition, monopolistic competition, oligopoly, monopoly

the demand curve for an individual perfectly competitive firm is

perfectly elastic

productive and allocative efficiency

when profit-maximizing firms in perfectly competitive markets combine with utility-maximizing consumers, the resulting quantities of outputs of goods and services demonstrate both

this BEST describes second-degree price discrimination:

you upgrade your monthly data plan from 5GB to 10GB for an additional $10/month.

market power

the ability of a single economic actor (or small group of actors) to have a substantial influence on market prices

marginal revenue

the additional income from selling one more unit of a good; sometimes equal to price

x-ineffieciency

the divergence of a firm's observed behavior in practice, influenced by a lack of competitive pressure, from efficient behavior assumed or implied by economic theory

price taker

a buyer or seller that is unable to affect the market price

kinked demand curve

a perceived demand curve that arises when competing oligopoly firms commit to match price cuts, but not price increases

product differentiation

a positioning strategy that some firms use to distinguish their products from those of competitors

profit-maximizing rule

all firms maximize profit by producing where MR = MC when price (MR) > MC, the firm should increase production when price (MR) < MC, the firm should decrease production

when regulative a natural monopoly, average cost pricing is more effectively used than marginal cost pricing because average cost pricing

allows the firm to earn a normal rate of return on investment, while marginal cost pricing will lead to economic losses

herfindahl-hirschman index (HHI)

an index of market concentration found by summing the square of percentage shares of firms in the market

if a perfectly competitive firm earns zero economic profit, it

can expect to see about the same amount of competition in the future

when oligopolies act jointly as a monopoly, they are acting as a

cartel

ways to overcome the prisoner's dilemma

collusion, repeated games

for a perfectly competitive industry, all of this are true in the long run

consumer surplus is maximized the industry achieves productive efficiency the industry achieves allocative efficiency NOT: firms earn positive economic profit

second-degree price discrimination occurs when

consumers are charged one price for the first bundle of purchases and a different price for the next bundle of purchases

types of barrier to entry

control over a significant fact of production, economies of scale, government protection

an important difference between perfect competition and a monopoly is that a monopoly

faces a downward-sloping demand curve, while the perfect competitor faces a horizontal demand curve

sequential-move games

games in which players make moves one at a time, allowing players to view the progression of the game and to make decisions based on previous moves

monopolistic competition is like perfect completion in that they both

have numerous competitors

two different markets each have many buyers and many sellers, none of which have market power. what would be MOST helpful in determining whether each market is monopolistically competitive or perfectly competitive?

information on the degree of product differentiation in each market

the prisoner's dilemma has these characteristics

it is a noncooperative game there is no communication between players there will be inferior results for both players NOT: it is a sequential game

antitrust law

legislation to prevent new monopolies from forming and police those that already exist

because the market demand curve slopes down and to the right, the monopolist's marginal revenue will always be

less than the market price

types of product differentiation

location, quality, style, design, features, advertisting

contestable market

looks like a monopoly but does not act like one because of the threat of entry keeps prices low small airlines that serve unique routes still offer low prices if they fear entry by larger airlines

contestable markets

markets in which entry and exit are easy enough to hold prices to a competitive level even if no entry actually occurs

price caps

maximum price at which a regulated firm can sell its product they are often flexible enough to allow for changing cost conditions

a market situation in which large numbers of firms produce similar but not identical products is

monopolistic competition

it is easy to enter into and exit from which industrial structure?

monopolistic competition

each oligopolistic firm recognizes that it must take into account the behavior of its competitors when it makes pricing decisions. this recognition is called

mutual interdependence

what is a characteristic of an oligopoly market structure?

mutual interdependence

shutdown profit

occurs if average revenue is below average variable cost at the profit-maximizing positive level of output by not producing, the firm loses only the fixed costs

control over a significant factor of production

occurs when a company owns a significant share of its key ingredient or input in production

government protection

patents and copyrights that provide an exclusive right to sell a product

simultaneous-move games

players pick their actions at the same time

components of a game

players, strategies, payoffs, information, outcomes

which are part of a basic setup to a "game"?

players, the outcome, strategies NOT: a judge

second-degree price discrimination

practice of charging different prices per unit for different quantities of the same good or service

third-degree price discrimination

practice of dividing consumers into two or more groups with separate demand curves and charging different prices to each group

in this long run, which statement is TRUE for a monopolistically competitive firm?

price equals average total cost, and MR=MC

which statement is TRUE?

price is greater than marginal cost

perfect competition: profit maximization

P=MR=MC

barriers to entry allow

some monopolists to earn economic profits in the long run

which statements about marginal revenue (MR) are true?

MR is the change in total revenue divided by the change in quantity sold. in a perfectly competitive market, MR equals the market price. MR helps to determine the profit-maximizing output for a firm. NOT: MR is the total revenue divided by the quantity sold

characteristics typical of monopolistic competition

product differentiation, easy exit from the market, easy entry into the market NOT: one seller

when firms collude, they are looking to operate as a monopoly by

raising prices and reducing output in the market

collusion

secret agreement or cooperation, illegal in most cases

firm entry and exit

short-run profits and losses are eliminated in the long run short-run profits encourage new firms to enter, shifting industry supply to the right and decreasing the price until profits return to zero short-run losses encourage inefficient firms to exist, shifting industry supply to the left and increase the price until losses are eliminated

long-run industry supply curve

shows how the quantity supplied responds to the price once producers have had time to enter or exit the industry

market structure

the nature and degree of competition among firms operating in the same industry

concentration ratio

the share of industry output in sales or employment accounted for by the top firms

game theory

the study of how people behave in strategic situations

economic profit

total revenue minus total cost, including both explicit and implicit costs

short term supply curve for a competitive firm

when P < AVC: the firm shuts down immediately when AVC < P <ATC: the firm operates in the short run to minimize loses but exists the industry in the long run when P > ATC: the firm is earning economic profit

perfect (first-degree) price discrimination

when a seller charges each consumer the maximum price he/she is willing to pay; does not charge a single price in this case, monopolist captures all of the consumer surplus so CS=0

5 steps to maximizing profits in a competitive markets

1. find MR=MC 2. find optimal quantity where MR=MC 3. find optimal price (already given) 4. find the average total cost at the optimal Q 5. find the profit (P-ATC) * Q

five steps to maximizing profit for a monopolist

1. find MR=MC 2. find optimal quantity where MR=MC 3. find optimal price associated with the optimal quantity as determined by the demand curve 4. find average total cost math e optimal Q 5. find the profit (P-ATC) * Q

conditions for price discrimination to work best

1. firm must have market power (cannot be a price taker) 2. market can be segmented into different consumer groups 3. seller must be able to prevent arbitrage

Nash equilibrium

a situation in which economic actors interacting with one another each choose their best strategy given the strategies that all the other actors have chosen

dominant strategy

a strategy that is best for a player in a game regardless of the strategies chosen by the other players

short-run supply curve

a supply curve that shows the quantity of a product a firm in a purely competitive industry will offer to sell at various prices in the short run; the portion of the firm's short-run marginal cost curve that lies above its average-variable-cost curve

tit-for-tat strategies

a trigger strategy that rewards cooperation and punishes defections if your opponent lowers its price, you do the same if your opponent returns to a cooperative strategy, you do the same

cartel

a formal organization of producers that agree to coordinate prices and production

monopoly

a market in which there are many buyers but only one seller

oligopoly

a market structure in which a few large firms dominate a market

perfect competition

a market structure in which a large number of firms all produce the same product

monopolistic competition

a market structure in which many companies sell products that are similar but not identical

natural monopoly

a market that runs most efficiently when one large firm supplies all of the output

monopoly vs perfect competition

a monopoly produces a smaller quantity, charges a higher price, and earns profits in long-run equilibrium, unlike firms in perfect competition

prisoner's dilemma

a particular "game" between two captured prisoners that illustrates why cooperation is difficult to maintain even when it is mutually beneficial

rate of return regulation

a regulation that sets the price at a level that enables a firm to earn a specified target rate of return on its capital

average cost pricing rule

a rule that sets price equal to average total cost to enable a regulated firm to avoid economic loss

marginal cost pricing rule

a rule that sets price equal to marginal cost to achieve an efficient output

repeated games

a series of simultaneous games among the same set of economic actors

mutual interdependence

a shared sense that individuals or groups need each other in order to achieve common goals

the short-run supply curve for the perfectly competitive firm is the portion of the MC curve that lies

above the AVC curve

trigger strategies

action is taken contingent on your opponent's past decisions

rent seeking

activities undertaken by individuals or firms to influence public policy in a way that will increase their incomes

decreasing cost industry

an industry in which expansion through the entry of firms lowers the prices that firms in the industry must pay for resources and therefore decreases their production costs

constant cost industry

an industry that can expand or contract without affecting the long run per-unit cost of production; the long-run industry supply curve is horizontal

increasing cost industry

an industry that faces higher per-unit production costs as industry output expands in the long run; the long run industry supply curve slopes upward

a prisoner's dilemma describes a Nash equilibrium where

an outcome exists that is better for both players

characteristics of a monopolistically competitive industry

large number of firms, each with insignificant market share little to no barriers to entry and exit products sold but firms are similar but differentiated limited market power and ability to set prices

normal profit

the accounting profit earned when all resources earn their opportunity cost

price discrimination

the business practice of selling the same good at different prices to different customers