ht Profit Maxi Session- 5. Market structure: perfect competition in the short and long run, Monopoly, Monopolistic competition, Oligopoly, Introduction to Game theory, Price wars, Price Discriminationmarket structure Market structure, in economics, refers to how different industries are classified and differentiated based on their degree and nature of competition for goods and services. It is based on the characteristics that, influence the behavior and outcomes of ‘companies working in a specific market. FOUR DIFFERENT TYPES OF MARKET STRUCTURES Pure (Perfect) Competition: A market structure characterized by a large number of buyer and sellers of an identical product. (Example: commodities like crude oil) Monopolistic Competition: A market structure characterized by a large number of buyers and sellers of products that are similar to ‘one another be can be differentiated by brand, quality, etc. (Example: restaurants and retail clothing sellers) Oligopoly: A market structure characterized by only a few sellers of a product who dominate the market. (Example: breakfast cereals and natural gas) Monopoly: A market structure characterized by only one seller of a product dominating the market. (Example: electrical power companies and cable television companies)Number of firms Type of product Ease of entry Examples of industries Many Identical High © Growing wheat © Growing apples Many Differentiated High © Clothing stores ¢ Restaurants Few identical or differentiated Low ¢ Manufacturing computers ‘¢ Manufacturing automobiles Entry blocked ¢ First-class mail delivery © Tap waterForms of Market Structures on eek (er San Nyse’ eRe cet a kd Tame uel eare red | re can ttt) possible [eee Pure Oligopoly PRs Roe od faereMeke eect) Homogeneous products | . Differentiated products eect Seen Uy Ce Ry Tee eue cule io Interdependence exists | . Interdependence exists High cross elasticity of | . Impor. of selling costs | . impor. of selling costs Cee Price war and rigidity | . Price war and rigidity Elements of both monopoly | . Indeterminateness of | . Indeterminateness of re PYNo. of firms Fee CRU a De Re LES TT aa eee re yea Erne Cg One Significant MC =MR Most output restriction No competitors Possible P>MC rg Few Significant Strategic pricing Output restricted interdependent decisions Possible P>MC teers ei Many Few MC =MR Output restricted, product differentiation Each firm independent None P>MC Pres Cio Almost infinite None MC =MR=P. No output restriction Each firm independent None P=MCMarket structures influence how businesses set prices based on the type of structure in operation. In pure competition, price is set by supply and demand. ... In an oligopoly, prices rise as the market is controlled by only a few companies. In a monopoly, prices soar as one company controls the market with no competition. In a perfectly competitive market, each firm is a price taker, meaning that it has no control over the price. If it tries to raise its price, it loses all its consumers to other firms. If it lowers its price, it can sell as much as it wishes to, but it does not cover its costs.Characteristics of Perfect Competition 1. There are many buyers and sellers in the market. 2. The goods offered by the various sellers are largely the same. 3. Firms can freely enter or exit the market. petrrad 4. The individual firm produces a small portion of total Coil market output. 5. The firm cannot have any influence over the price it charges. 6. The individual firm in a perfectly competitive market is a price taker. 7. It takes the price determined by the market as the price that it will receive for its output.Perfect Competition Definition: Identical goods and services Characteristics: + Many sellers + NO control over price (NONE!!) + Easy to enter and exit the market Examples: Agriculture + Bananas * Corn + Wheat + ApplesPerfect competetion in long run and short run Costs & Price The INDUSTRY isthe Revenue TheSINGLEFIRMis Mc price maker aprice taker NORMAL profits only p AR=MR PI "AR=MR _PROFIT MAXIMIZATI » Profit maximization occurs when MR = MC When MR >MC: ingrsase output — Whea MR AC mst ower pie owes pit ee #0) Int Tel supra oth =e P , ac ae uy a @ When pce AR) sreced tase Monopolt wi rode where ‘more ~ mi wl be ess than P (iC = M8 (Profit Maximization)SUPER NORMAL PROFIT © In This Figure ,The Monopolist is in equilibrium at point E . 0 Because at this point MC=MR . © The Monopolist Produces OM Units & sell it at AM price © Thus in this Situation the super normal profit of the monopolist will be ABCD Does the monopolist always earn supernormal economic profits in the short run explain using an appropriate diagram? This diagram shows how a monopoly is able to make supernormal profits because the price (AR) is greater than AC. Usually, supernormal profit attracts new firms to enter the market, but there are barriers to entry in monopoly, and this enables the monopoly to keep supernormal profits in short and long run.Why monopolies make abnormal profits both in the short run and in the long run? In the short run, firms in competitive °" markets and monopolies could make * supernormal profit. ... In competitive markets barriers to entry and low — so. new firms can enter the market causing lower profit. Therefore, in the long-run in competitive markets, prices will fall and profits will fall. A competitive firm's short-run profit is always zero; a monopolist can haye a positive short-run profit.Because a monopoly firm charges a price greater than marginal cost, consumers will consume less of the monopoly's good or service than is economically efficient. ... Reorganizing a perfectly competitive industry as a monopoly results ina deadweight loss to society. What is deadweight loss example? ‘When goods are oversupplied, there is an economic loss. For example, a baker may ‘make 100 loaves of bread but only sells 80. The 20 remaining loaves will go dry and moldy and will have to be thrown away ~ resulting in a deadweight loss. Costs/Revenue ‘Output Under monopoly, producer surplus increases due to higher price Consumer surplus decreases due to higher price Loss of consumer surplus larger than gain in producer surplus, Dead-Weight Loss to societyCharacteristics Of Oligopoly it ie =| we entry tte i? anne eee TE) Routt lae (a) COSC aay | - igopol ————=xamples of Oligopolies Take any one of eas these business areas + National Food Retailers . * Hotel Industry and see if you can * DIY Retail Sector name the top 5 + Electrical Retailing Companies! + Package Holiday Companies BY + Leading Commercial Banks - + Telecommunications Industry Orange competes in an oligopoly — * Pharmaceutical companies there is intense price and non-price + Soft drinks manufacturers competition for customers * Low cost airlines + Computer games console manufacturersby Oligopoly Car industry Aircraft industry Pharmaceutical industry Oil industry Financial industry = Satet lerizon Sprint y - Mobile:Collusive Oligopoly Non- collusive Oligopet The organization of petroleum-exporting countries (OPEC) is perhaps the best-known example of an international cartel; OPEC members meet regularly to decide how much oil each member of the cartel will be allowed to produce. lypes ot Oligopolies COLLUSIVE COLLUSION: — An agreement between firms to limit competition, increase monopoly, & increase profits — Note: Illegal in most countries (Why?) NON-COLLUSIVE When oligopolistic firms do not agree, whether formally or informally, to fix prices or collaboratein some way ae eset SOY Gees COLLUSION + Formal agreement occursin the form ofa CARTEL + PRIMARY GOAL: Limit competition betweenmemberfirms and to maximize joint profits as if the firms. were collectivelya monopoly = Tacit/informal: * Cooperation (w/same objectives) but w/oa formal agreement. * Often involves PRICE LEADERSHIP by a dominant firm RESTRICTS COMPETITION! ‘number of sellers are small and the products being traded are homogeneous.Maximizing Oligopoly Profits ATC Market demand Marginal Revenue Price or Cost (dollars per unit) 1 1 Profit-maxQ —+ Quantity (units per period)Oligopoly ° Price war: a series of competitive price cuts that lower the market price below the cost of production example: PS3 lowers price, so does Xbox and Nintendo © Collusion: when businesses get together and set prices, divide the market, or limit production (illegal)Price differentiation is a pricing strategy that charges different segments of customers altered prices for the same products or services Oligopolistic markets can have some degree of product differentiation. Market shares are determined not just by prices, but also by durability, design and performance of each firm's product. ... Each firm will choose its own price, taking the competitor's price as fixed. ‘An example of price discrimination would be the cost of movie tickets. Prices at one theatere are different for children, adults, and seniors. The prices of each ticket can also vary based on the day and chosen show time. Ticket prices also vary depending on the portion of the country as well When demand becomes less elastic over time, as is the case in airline markets, a monopolist can easily price discriminate; however, we show that oligopoly firms generally cannot. We also show that using inventory controls allows oligopoly firms to set increasing prices, regardless of whether or not demand is uncertainFirst degree price discrimination, alternatively known as ‘perfect price discrimination, occurs when a firm charges a different price for every unit consumed. fegree price discrimination means charging a different price to different consumer groups. For example, rail and tube travellers can be subdivided into commuter and casual travellers, and cinema goers can be subdivide into adults and children. Splitting the market into peak and off peak . Third degree use is very common and occurs with gas, electricity, and telephone supply, as well as gym membership and parking charges. Third-degree discrimination is the commonest type.Price Rigidity and the Kinked Demand Curve ree and Marginal Revenue per Unit A kinked demand curve occurs when the demand curve is not a straight line but has a different elasticity for higher and lower prices. .. This model of oligopoly suggests that prices are rigid and that firms will face different effects for both increasing price or decreasing price. In an oligopolistic market, the kinked demand curve hypothesis states that the firm faces a demand curve with a kink at the prevailing price level. The curve is more elastic above the kink and less elastic below it. This means that the response to a price increase is less than the response to a price decrease.Key Concepts — Game Theo fetta A dominant strategy is one where a single Dominant strategy strategy is best for a player regardless of what strategy other players in the game decide to use Any situation where all participants in a game are Nash equilibrium pursuing their best possible strategy given the strategies of all of the other participants Where firms undertake actions that are likely to Tacit collusion minimize a competitive response, e.g. avoiding price-cutting or not attacking each other’s market Whistle blowin When one or more agents in a collusive 6 agreement report it to the authorities An economic transaction in which whatever is Zcosin gare gained by one party must be lost by the other.Game Theory and Oligopoly Behavior Starbucks vs. San Francisco Coffee Starbucks The “players” are the firms: Tw “Game theory is the study | coffee shaps, Starbucks and San don't advertise eee of how people behave in | 'an<'sco Coll : strategic situations. By The "moves" are the actions the 3 ‘strategic! we mean a firms can take: The coffee shops 3 situation in which each | ‘2" ether adverse around town or & & 5 o & a adv person, when deciding See ie what actions to take, must | The “payoffs” are the profits the - ust | firms will earn: Advertising consider how others might | increases firms’ costs, but can also respond to that action.” increase revenues d “Oligopoly is a market structure in which only a few sellers offer similar or | The equilibrium outcome of the game is that both firms will advertise. Even though both identical ducts.” would be better off by not advertising, such an outcome is unstable since each firm would en eal PeOCUOL, have an incentive to advertise if its competitor did not. The outcome circled is known as the "Nash Equilibrium", or the outcome at which neither firm has anything to gain by changing only its own strategy unilaterally.OLIGOPOLY VERSUS Visit www. PEDIAA.com OLIGOPOLY Oligopoly is an economic ait ete ome Tee Uy as met Rotor nto es nitty : Pre mecacrele rarnrticl atin with slight differences . PNG a eeu eee Cer Te eat e Pelee Crete moderate and fair pricin Eee eit Con Cin ener Pb uner emartcmsttoned Rane atas h UConn nce ee (Om