Econ Test 4
Cooperative games
2 or more firms collude
Prisoner's dilemma
A famous game with a dominant strategy and shows the basic problem confronting non-colluding oligopolists.
The nature of cartels and type of organizations in cartels
A group of businesses that function as a single producer or monopoly OPEC (Organization of Petroleum Exporting Countries)- Production quotas, maintain high prices, recent price and production, Achilles heel of OPEC Collection of firms making agreements. May lead to joint profit maximization.
Nature and use of advertising
Advertising can change the position of the demand curve. Tend to use celebrities. Reduction of information costs leads to more knowledge of substitutes.
Examples of perfect competition
Airline fares are a matter of competition in supply and the amount of demand. NY fare is low bc of the competition from many airlines. Internet related industries (easy to compare prices, efficient, fast) such as Ebay and Amazon Agricultural markets (identical products (corn is corn) Foreign exchange markets (currency is homogeneous, ease of price comparison)
Anti-trust laws and their intent
Antitrust laws forbid activities where the effects are not as obvious Predatory pricing - pricing deliberately kept low Price discrimination - blocking entry Tie-in-sales - buy a product that requires another product Antitrust authorities look for dominant firms that use types of pricing discrimination policies.
Long run of an oligopoly
Charges a higher price, produces less output, fails to maximize social welfare
Decreasing, increasing, and constant cost
Constant cost: prices of inputs do not change as output is expanded Increasing cost: cost curves of individual firms rise as the total output of the industry increases Decreasing cost: lower costs as the industry expands and there is more output at a lower price
Meaning of the term "oligopoly"
Derived from 2 Greek words: few and to sell. It is "competition among the few" usually two to ten firms in an industry Characterized by mutual dependence
Non cooperative games
Each firm sets prices without consulting other firms
Economic problem: How are prices determined?
Econ myth: costs determine prices charged Econ principle: prices are not always in same relationship to their cost of production Price is a product of competition
Determining short run equilibrium in monopolistic competitive market
Economic profits: Total revenues - explicit and implicit costs Marginal Revenue: Increase in total revenue resulting from a one-unit increase in sales
Monopoly and welfare loss
Efficiency objection: monopolies result in market inefficiencies of lower output and higher prices Antitrust policies reduce profitability Sherman Act prohibited restraint of trade Clayton Act: Federal Trade Commission dealt with antitrust actions, banned predatory pricing and prohibited certain mergers
Long Run Equilibrium
Farmer producing wheat in the long run with economic profits. Profitable wheat production causes more competition. Profits move to zero economic profits. The market for organic apples.
What is product differentiation
Firms accents unique product qualities, real or perceived, to develop a specific product identity. Sources: Physical differences, Prestige considerations, Location, Service considerations
Collusion in an oligopoly
Firms agree to act jointly in pricing and other business matters
What are horizontal, vertical, and conglomerate mergers
Horizontal: a merger or business consolidation that occurs between firms that operate in the same industry (2 hotels merging) Vertical: firms from different parts of the supply chain consolidate to make the production process more efficient or cost effective. (hotel merging with mattress company) Conglomerate: a merger between firms that are involved in totally unrelated business activities (hotel merging with Ford)
Payoff matrix
If each prisoner confesses they will each serve 5 years in jail. If neither confesses, each prisoner may only get 2 years because of insufficient evidence. If one prisoner confesses and the other does not, the confessor goes free and the other prisoner gets 10 years.
Determining long run equilibrium in monopolistic competitive market
If existing firms are earning economic profits new firms enter to take advantage of the economic profits. The demand curves for each of the existing firms will fall and become more elastic due to increasing substitutes
Difference of economic profits in the long run (perfect and monopoly)
In perfect competition: Profits earned in the short run New firms entering the industry will erode profits In monopoly: Profits are not eliminated because barriers to entry exist Profits are possible in the long run No guarantee of demand for product
Characteristics of a company in oligopolies
Interdependence of firms in making decisions Advertising and selling costs are high Group behavior presents a challenge to profit-maximization Indeterminateness of demand curve (events are not caused by prior events) Elements of monopoly Price rigidity and price stickiness
Monopolistic competition vs. Perfect competition
Many buyers and sellers with relatively free entry Significance of excess capacity Failing to achieve produce efficiency Excess capacity
Conditions for price discrimination
Market power, market segmentation (dividing consumers into groups), difficulty in reselling
What is market segmentation, pricing power, and collusion
Market segmentation: dividing consumers into groups Pricing power: the effect that a change in a firm's product price has on the quantity demanded of that product. Collusion: a non-competitive, secret and sometimes illegal agreement between rivals which attempts to disrupt the market's equilibrium. (antitrust laws help to stop)
Monopolistic competition meaning
Market structure where many producers of somewhat different products compete with one another. Similar to perfect competition and monopoly: some market power. Major difference is similar to perfect competition but produces a differentiated product: Relatively free entry of new firms Long-run price and output behavior Zero long-run economic profits
Barriers to entry for monopolies, perfect competition, and oligopolies
Monopoly: Product differentiation Institutional barriers by government: patents and licensing Exclusive franchise rights Tariffs and quotas Economic barriers Perfect Competition: No significant barriers to entry or exit Oligopolies: government regulations and control over important inputs.
Long term strategy in oligopoly
Most oligopolistic interactions are not one-shot games but involve continuing repetition in game strategy Tit-for-tat Strategy: copycat your competition Cell phone wars: Sprint and Verizon
Characteristics of a company in perfect competition
Perfect competition in a market structure is characterized by: Many buyers and sellers that are called price takers, Firms are perceived by consumers as selling identical (homogeneous) products), Firms experience easy market entry and exit with no significant barriers to entry or exit.
Kinds of companies and barriers to entry in perfect, monopolistic, and oligopolistic competition
Perfect competition: easy to enter- anyone can enter Monopolistic: have often legal barriers that not many companies can enter from Oligopolistic: often too costly or too difficult for rivals to enter market
The number of firms in perfect, monopolistic, and oligopolistic competition
Perfect competition: infinite number of firms Monopolistic: only one firm Oligopolistic: small number of firms
Elements of perfectly competitive markets
Perfect knowledge is freely available No barriers to entry Firms produce homogeneous units A firms is a price taker and takes its price from the whole industry. A large number of firms are in the market Long run normal vs. short term abnormal profits
Examples of market segmentation and predatory and tie-in-sales
Predatory pricing: pricing deliberately kept low to hurt competition Tie-in-sales: buy a product that requires another product Market segmentation: dividing consumers into groups
Meaning of price rigidity and price stickiness
Price Stickiness is the resistance of a price (or set of prices) to change, despite changes in the broad economy that suggest a different price is optimal. When applied to prices, it means that the prices charged for certain goods are reluctant to change despite changes in input cost or demand patterns. Price rigidity is when firms stick to their original price.
Examples of price discrimination and peak load pricing
Price discrimination and peak load pricing: Monopolist discriminates with price among its buyers Example: utility companies Examples of price discrimination: Disneyland Airline tickets Coupons College and university tuition Quantity discounts Peak load pricing: high price is charged for the goods and services during times when their demand is at peak.
What is the meaning of price takers and price makers, and in what kinds of competitive markets do they operate
Price takers: Buyers and sellers must accept the price the market determines Price makers: An entity, such as a firm, with a monopoly that gives it the power to influence the price it charges as the good it produces does not have perfect substitutes. Operate in a PERFECTLY COMPETITIVE market (firm's demand curve is FLAT) Monopolistically competitive sellers are price makers rather than price takers
Short Run Profits and Losses
Producing at the profit-maximizing output level does not mean that a firm is actually generating profits. Evaluating economic losses in the short run (Continue to produce or shut down?Must consider variable costs) Examples: Restaurant serving lunch and summer camp demand
Allocative and productive efficiency
Productive efficiency: firms produce in the least costly way or P = Minimum ATC Allocative efficiency: production is allocated to reflect consumer preferences or P = MC
Characteristics of a company in monopoly
Pure monopoly: market with a single seller and is a price maker A pure monopoly is rare in the real world Definition One seller in competitive arena where has control of market Example: U.S. Postal service, but there is competition from specialized companies U.S. Postal service is the ultimate processor of standard mail
Division of total profits depends on what in an oligopoly
Revenue bargaining strength of the firms financial strength ability to inflict damage relative costs consumer preferences, bargaining skills
Demand and Marginal Revenue in Monopoly
The market demand curve is the demand curve for the firm's product. In monopoly, the firm cannot set both its price and the quantity it sells. Monopolist face a downward-sloping demand curve.
Profit maximization
The short run or long run process by which a firm determines the price and output level that returns the greatest profit. Total Revenue (TR)= Pxq Average revenue (AR): TR/q or [Pxq]/q Marginal revenue (MR): MR=change in TR/change in q Perfect competition: P= MR= AR
Know the kind of markets in which McDonald's, Starbucks, and Dunkin Donuts compete
They compete in a monopolistic competition market
Meaning of price effect in monopolistic competition
To sell the last unit, the monopolist must cut the market price on all units sold. This decreases total revenue
Game theory
Various parties acting in such a way that minimizes damage from opponents (Alternative actions are taken depending on specific policies followed by other firms.)
Long Run Supply
When the output of an entire industry changes, the likelihood is greater that changes in costs will occur. The three possible types of industries seen when considering long-run supply: Constant-costs Increasing-costs Decreasing-cost
The two types of oligopolists
With or without product differentiation (airlines, automobiles, cereals, tobacco, sports drinks)
