NEU Business School

E-BBA Program

Topic 9

Market Entry and

Monopolistic competition

Lecturer: Dr. Tran Thi Hong Viet

 Market structures

Nature Market Barriers Non- price

Market Example No of Competition
of product power of entry
structures firms
Perfect Many
Homoge- No No
Compe Agr. small neous
-tition products firms “price taker”
Monop Hairdresser Many Adver
Differen Low
-olistic Phở, Beers, relatively Low -tising
-tiation
Competi. small firms
Oligo OPEC, Some Identical, Adver
High High
-poly Cars, Mobi relatively Differen -tising
network big firms -tiation
EVN, Only Very Very
Mono Unique
VNR One big High high
-poly
firm “Price maker”
Monopolistic Competition-
Characteristic
 Relatively large number of small firms
 Small market share
 No collusion, independent actions
 Product differentiation (similar, but not identical)
 Competition based not just on price, but on quality,
brands, services, location, promotion and
packaging
 Ease to enter and exit
 Low economies of scale
 Low set-up costs
 Advertising for product differentiation
 Demand curve of
Monopolistic Competition
 Demand curve:
 Slightly downward
sloping, highly elastic. P
Why?
- More close substitutes DMC
than a pure monopolist
- Not perfect substitutes (as
Dpc
is the case with perfect
competition) DM
Q
 Elasticity depends on:
number of rivals and
degree of product
differentiation (“closeness”)
 Monopolistic Competition:
Profit Maximization

MC Marginal approach:
max
P* ATC
Q* : MR=MC
ATC* P*: depends on Q* vµ D
D max= Q* (P* - ATC*)
MR
Q
Q*
 Long run Equilibrium

 Condition where individual firms have

built the lowest cost plants and entry
or exit of firms has brought profits
equal to normal profits for the typical
firm (economic profit = 0 or =0)
 Long-Run Equilibrium
- A simple form
P P
MC
ATC
S

Pe MR

D
P = MC = ATCmin
(normal profit, =0)

Q
Market Firm Q
 Long run Equilibrium OF
MONOPOLISTIC COMPETITION

P max P
MC MC
P* ATC
ATC* P*= ATC* ATC
E E
D
D MR
MR
Q Q
Q* Q*
Short run Equilibrium Long run Equilibrium
P*>ATC* max P* = ATC*  =0 ( because low barriers)
No allocative efficiency
May earn positive, No productive efficiency

normal profit or loss Only normal profit

Monopolistic Competition:
Long run Adjustment

 Above normal (positive economic) profit in

short run
 Encourages entry of new firms
 Demand curve for an existing firm shifts left
 Loss in short run
 Lead to exit of some firms
 Demand curve for survivors shifts right
 So tendency for normal profit in long run
Monopolistic Competition
and Economic Efficiency

 No Allocative efficiency: P> MC

 No Productive efficiency:
 Excess capacity: firm produces at a higher
unit cost than minimum ATC at Equilibrium
( P> min ATC)
 Too many small firms each produce too little
 APPLICATION 1

NAME BRANDS VERSUS STORE BRANDS

APPLYING THE CONCEPTS #1: How does brand
competition within stores affect prices?

In many stores, nationally advertised brands share the shelves with store brands.
The introduction of a store brand is a form of market entry—a new competitor for a
national brand—and usually decreases the price of the national brand.

The classic example of the price effects of store brands occurred in the market for
lightbulbs:

• In the early 1980s, the price of a four-pack of General Electric bulbs was about
$3.50.
• The introduction of store brands at a price of $1.50 caused General Electric to
cut its price to $2.00.
• In markets without store brands, the General Electric price remained at $3.50.

For a wide variety of products—laundry detergent, ready-to-eat breakfast cereals,

motor oil, and aluminum foil—the entry of store brands decreased the price of
national brands.
 APPLICATION 2

OPENING A DUNKIN’ DONUTS SHOP

APPLYING THE CONCEPTS #2: What does it take to
enter a market with a franchise?

One way to get into a monopolistically competitive market is to get a

franchise for a nationally advertised product.

Table 11.1 shows the franchise fees and royalty rates for several
franchising opportunities. The fees indicate how much entrepreneurs
are willing to pay for the right to sell a brand-name product.
 NEU Business School
E-BBA Program

Topic 10

Oligopoly and Strategic

Behavior

Lecturer: Dr. Tran Thi Hong Viet

 Market structures

Nature Market Barriers Non- price

Market Example No of Competition
of product power of entry
structures firms
Perfect Many
Homoge- No No
Compe Agr. small neous
-tition products firms “price taker”
Monop Hairdresser Many Adver
Differen Low
-olistic Phở, Beers, relatively Low -tising
-tiation
Competi. small firms
Oligo OPEC, Some Identical, Adver
High High
-poly Cars, Mobi relatively Differen -tising
network big firms -tiation
EVN, Only Very Very
Mono Unique
VNR One big High high
-poly
firm “Price maker”
 Oligopoly-
Characteristics
 A “few” large firms dominate the market
Measure by concentration ratios:
 The % of total industry sales accounted for by a

given number of the largest firms in each industry

 Firms are interdependent/interrelation (firms always
consider rival’s response when they make decisions-
Uncertainty)
 Substantial barriers to entry (economies of scale &
collusion strategy & merger)
 Products may be differentiated or undifferentiated
 Imperfect information
 Concentration ratio-
Example
• The percentage of the market output produced by the largest firms

Sale volume/year
Firm (USD millions)
1 150 Total number of
2 100 firm is 15
3 80
4 70
5 - 15 50
Total 450
400
Concentration ratio (of 4 firms) = = 88.9%
450
Four strategic solutions
for Uncertainty

 Price competition and “Price War” (firms

set up low price)
 Non- price competition, ridigity price
(firms do not change price)
 Price leadership
 Collusion and mergers
 Game theory- analysis

 Mutual interdependence: each firm’s

decisions impact on other firms’ profits
 Collusion: since interdependence actions
tend to lead to lower profits for all
 Incentive to cheat: collusion may mean the
industry as a whole is more profitable, but it
may prevent individual firms from achieving
highest profits
 Low price strategy: set up low price to get
safety
 A Game theory matrix

Firm A’s price strategies

$12 $10

Each firm earns A earns $400 m.

$12 a profit of $300 m. B earns $100 m.
Firm B’s
price
strategies
$10 A earns $100 m. Each firm earns
B earns $400 m. a profit of $200 m.
 Nash Equilibrium
 Nash Equilibrium (Jone Nash 1951)
 At equilibrium, each firm is doing the best it
can given what its competitors are doing
(interdependent)
 Implication:
 Explain game theory (why do oligopoly firms
decide to set up low price)
 Explain why price is ridigity in the oligopoly
market.
 Kinked Demand Curve
and Price rigidity
P P
“Rigid price”
pB B MC
A PA A
PA MC’
C
PC D
MR1 D’
D’
MR2
Q Q
QB QA QC’ QC QA
Assumes: Price rigidity:
- Rival firms will follow price Price changes can lead to
decreases inferior outcomes, so safer
- But will not follow price increases not to change prices
 Price leadership-
tacit collusion
 A type of gentlemen’s agreement in which
oligopolists automatically follow the price
initiatives of the dominant firm in an industry
 Infrequent price changes by price leader
 Price announcements often made through
indirect channels such as trade publications
 Price leader may choose strategies to block
potential entrants: limit-pricing or price
blocking
 Collusion and mergers
 Collusion:
 A type of formal or informal arrangement to coordinate
pricing strategies (increase price, fix prices or cut
down price)
 Obstacles to collusion:
 Demand and cost differences between firms
 Numbers of firms
 Cheating
 Recession
 Legislative obstacles:
Untitrust Law
 Merge may be occurred when firms have the same
demand and costs
 Oligopoly and
Economic Efficiency

 No productive efficiency:
 Not min ATC-Under allocation of resources
 No allocative efficiency:
 P does not equal MC- output is restricted
 Dynamic efficiency:
 Long term improvements in product quality
and production methods may occur (for
concentration on R&D to make barriers of
entry)