EXC 3520 Microeconomics

Lecture 12
Dag Morten Dalen
Agenda
1. Fun (ch. 12)
Market structure
Perfect Monopolistic Oligopoly Monopoly
competition competition

Many firms Many firms A few firms One firm

Homogenous Differentiated (Usually) One product, with
product product differentiated not so close
Price-takers Price-setters product substitutes
Free entry Free entry Price-setters or Price-setters
capacity setters
Entry barriers

Strategic
interaction
Monopolistic
competition
• Many firms
• Free entry
• Differentiated products
•
Oligopoly
• Few firms and strategic interaction
• Entry barriers
• Substitutes (or not)
• Price vs quanity
What is different with strategic interaction?
• So far optimization: Maximize profit – given demand and cost.
• But what if your demand depends on your competitor’s price (or
quanity)?
• Then you need to guess on what price your competitor will set
• Not that easy: The price your competitor will set, depends on her
beliefs about your price

Your best choice depends on others’ choices, and others’ choices

depends on yours’
Nash-equilibrium
• Named after John Nash (1928 –
2015) 
• We have a Nash equilibrium if no
“player” can do better by
unilaterally changing their strategy.
• Imagine that each player is told the
strategies of the others. Suppose
then that each player asks
themselves: "Knowing the
strategies of the other players, and
treating the strategies of the other
players as set in stone, can I
benefit by changing my strategy?“
• If “no”, then a Nash-equilibrium.
Prisoner’s dilemma

Confesser (1) avoid prison

due to cooperartion with
prosecutor

Confesser (2) avoid prison Prosecution’s case

due to cooperartion with is hard – plea
prosecutor bargain
From oligopoly to price competition with homogenous products

• Cetirizine is an
antihistamine medicine that
helps the symptoms of
allergies.
• Off-patent in 2002

https://en.wikipedia.org/wiki/Generic_pharmaceutical_price_decay
Entry game
• Entrant: A new firm are considering to
enter a new market
• Incumbent: The incument can respond
aggressively or by accomodating
• What is the outcome?
Timing is important
• First-mover advantage or second-mover advantage?
• Depends:
• Entry game (A new firm)
• Pricing game (Pharmaceuticals)
• Capacity game (airline competition)
Collusion
• Illegal
• Tacit collusion – indirectly. Communation by signalling intension
• Firms may abstain from adjsuting prices to cost changes – afraid it will
trigger fierce competition
• Public prices are risky – may facilitate collusion
• Collusion – a stable situation?
• Long term benefit, but short-term gains from deviating.