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Imperfect Competition: © 2004 Thomson Learning/South-Western
Imperfect Competition: © 2004 Thomson Learning/South-Western
Imperfect
Competition
2
Pricing of Homogeneous Goods
In this market a relatively few firms produce a
single homogeneous good.
– Assume demanders are price takers.
– Assume there are no transactions or informational
costs.
These assumptions result in a single
equilibrium price for the good.
Initially, assume a fixed, small number of
identical firms.
3
Quasi-Competitive Model
4
Quasi-Competitive Model
5
FIGURE 11.1: Pricing under
Imperfect Competition
Price
C
P MC
C
MR
Q Quantity
6 0 C per week
Cartel Model
7
FIGURE 11.1: Pricing under
Imperfect Competition
Price
P M
M
P A
A
C
P MC
C
MR
0 Q Q Q Quantity
8 M A C per week
Cartel Model
9
Cartel Model
10
APPLICATION 11.1: The De Beers Cartel
11
APPLICATION 11.1: The De Beers Cartel
12
APPLICATION 11.1: The De Beers Cartel
13
APPLICATION 11.1: The De Beers Cartel
14
The Cournot Model
15
The Cournot Model
16
FIGURE 11.2: Spring Monopolist’s
Output Choice
Price
120
60
MR D
17 0 60 120 Output
per week
Duopoly Model
Cournot assumed that firm A, say, chooses its output
level (qA) assuming the output of firm B (qB) is fixed and
will not adjust to A’s actions.
The total market output is given by
Q q A q B 120 P
Assuming q B is fixed, A' s demand curve is
q A (120 q B ) P.
18
Duopoly Model
120 qB
qA . [11.4]
2
19
Duopoly Model
20
FIGURE 11.3: Cournot Reaction
Functions in a Duopoly Market
120
Output of
firm B(qB)
Firm A’s reactions
Output of
21 0 60 120
firm A(qA)
Duopoly Model
Firm A’s reaction function is shown in Figure 11.3.
Firm B’s reaction function is given below and also
shown in Figure 11.3
120 q A
qB [11.5]
2
22
FIGURE 11.3: Cournot Reaction
Functions in a Duopoly Market
120
Output of
firm B(qB) Firm A’s reactions
60
Equilibrium
Firm B’s reactions
Output of
23 0 60 120 firm A(qA)
Cournot Equilibrium
24
FIGURE 11.3: Cournot Reaction
Functions in a Duopoly Market
120
Output of
firm B(qB) Firm A’s reactions
60
Equilibrium
40 Firm B’s reactions
Output of
25 0 40 60 120
firm A(qA)
Cournot Equilibrium
In this Cournot equilibrium each firm produces 40 units
of output.
q A 40 q B 40.
Total industry profit is $3,200, $1600 for each firm).
Because the firms do not fully coordinate their actions,
their profits are less than the cartel profit ($3,600) but
much greater than the competitive solution where P =
MC = 0.
26
Price Leadership Model
27
Price Leadership Model
28
FIGURE 11.4: Formal Model of Price
Leadership Model
Price
SC
29 0 Quantity
per week
Price Leadership Model
P1
D’
P
2
0 Quantity
31 per week
Price Leadership Model
32
FIGURE 11.4: Formal Model of Price
Leadership Model
Price
SC
P1
D’
P
L
P
2
MC
MR’ D
0 Q Q Q Quantity
33 C L T per week
APPLICATION 11.2: Cournot in
California
34
APPLICATION 11.2: Cournot in
California
35
Product Differentiation: Market
Definition and Firms Choices
36
Product Differentiation: Market
Equilibrium
38
APPLICATION 11.3: Price Leadership in
Financial Markets
39
APPLICATION 11.3: Price Leadership in
Financial Markets
40
APPLICATION 11.3: Price Leadership in
Financial Markets
41
APPLICATION 11.3: Price Leadership in
Financial Markets
42
APPLICATION 11.4: Competition in
Breakfast Space
Industrial Concentration
– Three major firms control approximately 80 percent
of the market.
– Returns on invested capital are more than double
those of the average industry.
– It is unclear why the market is not more competitive
since there do not seem to be any major economies
of scale and no obvious barriers to entry.
43
APPLICATION 11.4: Competition in
Breakfast Space
44
APPLICATION 11.4: Competition in
Breakfast Space
45
APPLICATION 11.4: Competition in
Breakfast Space
46
Application Figure 1: Salop’s Model of
Spatial Competition.
A1 . . B1
.
B2 .A2
47
Product Differentiation: Entry by
New Firms
48
Monopolistic Competition
49
Monopolistic Competition
50
FIGURE 11.5: Entry Reduces
Profitability in Oligopoly
Price, d
costs
mr MC AC
P*
0 Quantity
q*
per week
51
Monopolistic Competition
52
FIGURE 11.5: Entry Reduces
Profitability in Oligopoly
Price, d
costs
mr MC AC
d’
P*
P’
mr’
0 Quantity
q’ q* qm
per week
53
Sustainability of Monopolistic
Competition
54
Determination of Industry Structure
Let q* represent that output level for which average costs are
minimized.
Let Q* represent the total market for the commodity when price equals
market (and average) cost.
The number of firms, n, in the industry (which may be relatively small)
is given by
Q*
n * [11.7]
q
55
Determination of Industry Structure
56
FIGURE 11.6: Contestability and
Industry Structure
Price
AC 1 AC 2 AC 3 AC 4
P*
0 Quantity
q* 2*
q 3*
q Q* = 4* per week
q
57
APPLICATION 11.4: Airline
Deregulation Revisited
Airlines Contestability
– Since planes are mobile, they can be moved into a
market that promises excess profits.
– Such potential entry should hold prices at
competitive levels even with few firms.
– However, terminal facilities are market specific and
brand loyalty appears to exist.
– Also, some major airports have limited potential for
growth.
58
APPLICATION 11.4: Airline
Deregulation Revisited
Effects of Deregulation
– Studies suggest that fares declined after
deregulation with one study suggesting yearly gains
to customers of about $8.6 billion.
– However, this study found that additional welfare
gains of about $2.5 billion were not realized
because of the limitations of landing slots and
computer reservations systems may aid in price
collusion among major airlines.
59
APPLICATION 11.4: Airline
Deregulation Revisited
60
Barriers to Entry
61