Monopoly

Supernormal profits
-Less incentive to be efficient/innovative/produce new products -More resources to protect market dominance by raising barriers to entry +More funds for investment and R&D +Reserves to overcome short term difficulties (eg: stability to employment)

Monopoly Power
-Higher prices, lower output for domestic consumers +Financial muscle to compete effectively against multinational firms

Productive Efficiency
-Productively inefficient(MC AC) +Economies of scale: AC likely lower than most efficient perfectly competitive firms (MC=AC)

AllocativeEfficiency
-Misallocation of resources (P MC) (Less choice/Lower quality) +Avoid unnecessary duplication of capital (eg: airport runway / railway track / electricity/water distribution network)

Cross-subsidisation
-Wastes resources as profits from one sector is used to finance losses in another +Increased range of goods (eg: provision of essential loss-making services: rural bus/mail services)

Price Discrimination
-Raise producer surplus, reduce consumer surplus/welfare +Raise firm s total revenue(TR) to allow survival of essential services

Barriers to Entry/Contestability
-Complacent monopoly raises entry barriers by limit/predatory pricing +Supernormal profit acts as incentive for rival firms to breakdown monopolies through creative destruction by investing in R&D and innovations

Collusion
Def: Firms agree to restrict competition between themselves by fixing prices and restricting output to secure joint profit maximisation.

Type
Price fixing, restrict output (allocating market share) Limit advertising budget Share market/technical info

Tacit collusion
Firms have an understanding on pricing and output decisions often through price leadership (eg: Other firms follow pricing decisions of market leader)

Conditions
Oligopolistic market structure (so few major firms to reach an agreement) Effective monitoring system to prevent cheating No potential competition (eg: hit-and-run) /no effective competition Similar cost structure for similar pricing decisions Stable, mature industries (eg: steel)

Indication/signs
Same prices Raise prices by same amount at the same time High supernormal profits High share prices

Evaluation
Collusion unlikely: -Competition Commission: -Fines up to 10% of annual revenue/ Imprisonment for directors -Whistle blowers protected by competition law - Evaluate Conditions: -Cartels tend to breakdown due to cheating -Independent firms (competition) gain market share at expense of cartel members -Similar cost structures: firms are innocent, just responding to increases in production costs -technological change (internet) undermines price/output agreements -Tacit collusion: - hard to prove -long investigation means collusion still goes on -opportunity cost of investigation: funds/time -Welfare loss depends on magnitude of price fixing Pro +Share R&D costs=wider range of products, higher quality, more choice +Less wastage on advertising +Share technical info=improve safety of products/ safety of workers Cons -higher producer surplus, prices - lower consumer surplus, quality, choice=welfare loss

Non-price strategies
1.Rationalisation Cut costs:-wage cuts -staff cuts -reduce pension benefits Increase efficiency: -combine head offices -rationalise supply chain - invest in new technology (increase productivity to lower unit costs) 2.Close down/sale of unprofitable stores/services 3.Back to basics: -concentrate on core activities to compete more effectively 4.Diversify: 5.Advertising: Increase/ decrease advertising 6.Try to End price war

Evaluation(Turn answer on its tail)

1. Rationalisation: -Less staff=worse consumer experience -Wage cuts=lower productivity -Rationalise supply chain=less products=less choice -Benefits of technology takes time (retraining of staff/installation) 2. Sale: -Reduced market share -Short-term solution since reduced scope for economies of scale 3. Too dependent on one market 4. Asymmetric information: Insufficient market info/ No expertise in management 5. Advertising: Increase=expensive/may be unsuccessful : Decrease=Weaker brand/lower market share 6.Difficult to end price war

Contestability -Low entry & exit barriers

-Low sunk costs -Existence of Potential competition (eg: hit-and-run)

Not Contestable(Indication: High concentration ratio/closure, lower profits) 1. Economies of scale:

Purchasing: Bulk buying Marketing: Advertising costs shared Financial: Lower borrowing costs Managerial: Share head office Technical: Increased dimensions, indivisibilities, R&D costs Risk-bearing: Spread risks over wide range of products

2. Natural monopoly
No single firm able to fully exploit benefits of economies of scale due to high fixed costs High (Minimum Efficient Scale): Large scale production needed to obtain economies of scale

3. High Start-up costs: 4. High Sunk costs:-Advertising

-Losses from resale of machinery/capital -Redundancy -Fines from contractual obligations (if contract broken)

5. Barriers: -Legal=government license/contract, planning permission, patents

=some industries dependent on government subsidies -Overt=Limit/Predatory pricing by existing firms leading to price war -Brand Loyalty: Consumer Inertia -AsymmetricInfo: Hard to secure supplies of raw materials/skilled labour/lack of expertise

6. Falling demand in markets Evaluation(Turn answer on its tail)

Diseconomies of scale (x-inefficiency/ rising raw materials& labour costs) Natural monopoly: +Avoid duplication of capital, lower prices Start-Up costs: Large firms have large funds Sunk costs:-Sale of brand to recoup costs -Good second-hand market -Not labour intensive=less redundancy payments 5. Magnitude of barriers: - Legal barriers=significant - Consumers are fickle 6. Falling demand: - foreign firms eager to gain foothold in market - temporary/ long term trend? 7. Competition Commission: -restrict mergers ensures contestability 1. 2. 3. 4.

Contestable
1. Niche market: specialist with small market size 2. Small firms provide may more choice/ higher quality ? 3. Technological change (creative destruction) erode advantage of large firm

Mergers & Integrations Advantages of Vertical Integration 1. Economies of scale:

Purchasing: Bulk buying Marketing: Advertising costs shared Financial: Lower borrowing costs Managerial: Share head office Technical: Increased dimensions, indivisibilities, R&D costs Risk-bearing: Spread risks over wide range of products

2. + Gain market share quickly (increase monopoly power) +Enter new markets-Higher growth-Secure long term survival 3. +Reduce competition by eliminating competitor & protect against takeover + Barriers to entry 4. Creates stronger brand 5. Increase profits: merge profit margin from each stage of production Cross-subsidising with supernormal profits 6.Gainexpertise/technical info Forward: -Establish distribution network: -Secure market outlets
-Direct contact with customers: - Gain market info

Backward: - Secure supplies (control quality of raw materials/delivery deadlines) Evaluation(Turn answer on its tail)
1. -Diseconomies of scale (x-inefficiency/ rising raw materials & labour costs/ geographical spread -Economies of scale benefits take time/ limited scope for further gains from Econ. of Scale 2. Asymmetric information= Lack of expertise-low efficiency-losses 3. Investigation by Competition Commission 4. Brand dilution: Unsuccessful part of business affect whole brand image 5. Opportunity cost of merger: Large funds needed/ merger may fail 6. Lead to Job Losses

Horizontal Evaluation 1. Overdependence on one market: Danger of declining market Diversify?

Price Caps
Def: Price limitimposed by regulator on firm to prevent abuse of monopoly power Lasts for 5 years RPI+K% Firm is allowed to increase prices k% above rate of inflation RPI-X% Firm is allowed to increase prices X% below rate of inflation Predictability/Unpredictability +More accurate revenue estimation (price cap =stable, steady revenue) +Better idea of efficiency improvements needed +Easier to plan investments -Technological change/external shocks=difficult to predict appropriate level of profits, output & funds for investment Harsh Price Caps +Protect consumer interest, control power of natural monopolies -Fall in profits & revenue=Less investment=Lower quality=Welfare loss Loose Price Caps +Higher profits & revenue=More funds for investment=Welfare gain -Tougher price cap next time

Evaluation(Turn answer on its tail)

1. Harsh Price Caps: Fall in share prices, dividends, credit rating, higher financial costs, Danger of takeover by foreign firms 2. Loose Price Caps: Higher supernormal profit used inappropriately for -Higher dividends -Higher director salary/staff wages 3. Firms have incentive to cut costs&increase efficiency to maintain previous profits 4. Regulator has discretionary power to set up price caps =unfair for some firms 5. Regulatory Capture: 6. Asymmetric information: -difficult to predict appropriate level of profits/output 7. Regulation only second best solution as surrogate to competition