McConnell_14CE_Micro_PPT_C12.pptx

Mehdi Arzandeh, University of Manitoba PowerPoint Presentation by 12-2 © 2016 McGraw?Hill Education Limited LEARNING OBJECTIVES LO12.1 List the characteristics of monopolistic competition. LO12.2 Explain why monopolistic competitors earn only a normal profit in the long run. LO12.3 Explain why monopolistic competition delivers neither productive nor allocative efficiency. LO12.4 Relate how the ability of monopolistic competition to deliver product differentiation helps to compensate for its failure to deliver economic efficiency. LO12.5 Describe the characteristics of oligopoly. LO12.6 Discuss how game theory relates to oligopoly. LO12.7 Explain the two main models of oligopoly pricing and output: collusive pricing and price leadership. LO12.8 Contrast the potential positive and potential negative effects of advertising. LO12.9 Discuss the efficiency of oligopoly from society’s standpoint and whether it is more or less efficient than monopoly. 12 Monopolistic Competition and Oligopoly Relatively large number of sellers Small Market Shares Limited control over market price No Collusion Independent Action Actions by one firm will not trigger a response e.g. a price cut by a single firm may result in an increase in its sales. LO1 © 2016 McGraw?Hill Education Limited 12.1 Characteristics of Monopolistic Competition 12-3 Differentiated products Product Attributes Service Location Brand Names and Packaging Some Control Over Price LO1 © 2016 McGraw?Hill Education Limited 12.1 Characteristics of Monopolistic Competition 12-4 Easy entry and exit Firms are small Economies of Scale are few Capital Requirements are low Advertising Nonprice Competition Firm’s demand curve shifts to the right and becomes less elastic. LO1 © 2016 McGraw?Hill Education Limited 12.1 Characteristics of Monopolistic Competition 12-5 Monopolistically Competitive Industries Industry concentration i. Four-firm concentration ratios ii. Herfindahl index : Sum of squared market shares LO1 © 2016 McGraw?Hill Education Limited 12.1 Characteristics of Monopolistic Competition 12-6 4-Firm CR = Output of four largest firms Total output in the industry HI = (%S1)2 + (%S2)2 + (%S3)2 + … + (%Sn)2 LO1 © 2016 McGraw?Hill Education Limited 12-7 FIGURE 12-1 Percentage of Output Produced by the Four Largest Firms in Selected Low-Concentration Sectors* Source: Statistics Canada, Industrial Organization and Concentration in Manufacturing, Mining and Logging Industries, Catalogue No. 31C0024 * As measured by dollar value of shipments. Demand is highly elastic The Short Run: profit or loss Produce where MR=MC The Long Run: only a normal profit Entry and exit Inefficient Product variety LO2 © 2016 McGraw?Hill Education Limited 12.2 Price and Output in Monopolistic Competition 12-8 LO2 © 2016 McGraw?Hill Education Limited 12-9 FIGURE 12-2(a) A Monopolistically Competitive Firm: Short Run and Long Run Quantity Price and Costs MR = MC MC MR D1 ATC Economic Profit Q1 A1 P1 0 (a) Short-run profits LO2 © 2016 McGraw?Hill Education Limited 12-10 FIGURE 12-2(b) A Monopolistically Competitive Firm: Short Run and Long Run Quantity Price and Costs MC MR D2 ATC Loss Q2 A2 P2 0 MR = MC (b) Short-run losses LO2 © 2016 McGraw?Hill Education Limited 12-11 FIGURE 12-2(c) A Monopolistically Competitive Firm: Short Run and Long Run Quantity Price and Costs MC MR D3 ATC Q3 P3= A3 0 MR = MC (c) Long-run equilibrium Complications Persistent positive profits may persist if: There is continuing and significant product Differentiation Entry is somewhat limited by the financial investment required to establish product differentiation Overall, we still expect the general results LO2 © 2016 McGraw?Hill Education Limited 12.2 Price and Output in Monopolistic Competition 12-12 Inefficient Productive inefficiency P > ATC Allocative inefficiency P > MC Excess capacity The gap between min.ATC and output* LO3 © 2016 McGraw?Hill Education Limited 12.3 Monopolistic Competition and Efficiency 12-13 LO3 © 2016 McGraw?Hill Education Limited 12-14 FIGURE 12-3 The Inefficiency of Monopolistic Competition Quantity Price and Costs MR = MC MC MR D3 ATC Q3 0 P3= A3 A4 Q4 Price is Lower Excess Capacity at Minimum ATC a b c d The firm constantly manages price, product, and advertising. Better product differentiation Better advertising The consumer benefits by greater array of choices and better products. Types and Styles Brands and Quality LO4 © 2016 McGraw?Hill Education Limited 12.4 Product Variety 12-16 A few large producers Homogeneous or differentiated products Homogeneous Oligopoly Differentiated Oligopoly Control over price Mutual interdependence Strategic behavior Entry barriers LO5 © 2016 McGraw?Hill Education Limited 12.5 Oligopoly 12-17 Mergers Combining of two or more competing firms e.g. steel, airlines, banking, entertainment Motivations: Increase in market share and higher economies of scale Higher monopoly power Higher product price Lower production costs LO5 © 2016 McGraw?Hill Education Limited 12.5 Oligopoly 12-18 Oligopolistic Industries Four-firm concentration ratio 40% or more to be oligopoly Shortcomings Localized markets Interindustry competition World trade Dominant firms LO5 © 2016 McGraw?Hill Education Limited 12.5 Oligopoly 12-19 LO5 © 2016 McGraw?Hill Education Limited 12-20 FIGURE 12-4 Percentage of Output Produced by the Four Largest Firms in Selected High-Concentration Industries* Source: Statistics Canada, Industrial Organization and Concentration in Manufacturing, Mining and Logging Industries. Catalogue No. 31C0024 *As measured by dollar value of shipments. Oligopolists must make plans in light of the actions and expected reactions of their rivals Basic concepts: Players Rules Strategies Payoffs Equilibrium LO6 © 2016 McGraw?Hill Education Limited 12.6 Oligopoly Pricing Behaviour: A Game Theory Overview 12-21 LO6 © 2016 McGraw?Hill Education Limited 12-22 FIGURE 12-5 Prisoner’s Dilemma Payoff Matrix Al’s Strategy Bill’s Strategy A B C D 4 4 12 1 2 2 1 12 Confess Confess Not Confess Not Confess 2 players 2 strategies Each strategy has a payoff matrix Independent actions stimulate a response LO6 © 2016 McGraw?Hill Education Limited 12-23 FIGURE 12-6 KEY GRAPH - Profit Payoff for a Two- Firm Oligopoly (in millions) RareAir’s Price Strategy Uptown’s Price Strategy A B C D $12 $12 $15 $6 $8 $8 $6 $15 High High Low Low 2 competitors 2 price strategies Each strategy has a payoff matrix Greatest combined profit Independent actions stimulate a response LO6 © 2016 McGraw?Hill Education Limited 12-24 FIGURE 12-6 RareAir’s Price Strategy Uptown’s Price Strategy A B C D $12 $12 $15 $6 $8 $8 $6 $15 High High Low Low Incentive to Cheat: Independently lowered prices in expectation of greater profit leads to worst combined outcome Collusion: low outcomes make firms return to higher prices. KEY GRAPH - Profit Payoff for a Two- Firm Oligopoly (in millions) Two distinct pricing strategies: Collusive pricing Price leadership There is no one simple model to predict outcomes due to: Diversity of oligopolies Complications of interdependence LO7 © 2016 McGraw?Hill Education Limited 12.7 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies 12-25 Cartels and Other Collusion: Cooperative Strategies Collusion: any agreement to fix prices, divide up the market, or otherwise restrict competition Reduce uncertainty by avoiding a price war Increase profits Prohibit new entrants Each firm acts as if it were a monopolist LO7 © 2016 McGraw?Hill Education Limited 12.7 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies 12-26 PRICE AND OUTPUT Three identical firms Each firm finds it most profitable to charge P0, but only if its rivals do so The answer: collude and agree on price P0 LO7 © 2016 McGraw?Hill Education Limited 12.7 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies 12-27 LO7 © 2016 McGraw?Hill Education Limited 12-28 FIGURE 12-7 Collusion and Joint-Profit Maximization Price and Costs Quantity D MR=MC ATC MC MR P0 A0 Q0 Economic Profit 12.1 GLOBAL PERSPECTIVE The 12 OPEC Nations, Daily Oil Production Agreement as of November 2014 © 2016 McGraw?Hill Education Limited LO7 12-29 Overt Collusion: Cartels - a group of firms or nations that collude Formally agreeing to the price Sets output levels for members OPEC Covert Collusion: secret, illegal or unwritten, informal collusions Nestle and Mars 2013 LO7 © 2016 McGraw?Hill Education Limited 12.7 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies 12-30 Obstacles to Collusion: Demand and cost differences Number of firms Cheating Recession Potential entry Legal obstacles: competition policy LO7 © 2016 McGraw?Hill Education Limited 12.7 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies 12-31 Price Leadership Model Leadership Tactics Infrequent Price Changes Communications Limit Pricing Breakdowns in Price Leadership: Price Wars Breakfast cereal industry LO7 © 2016 McGraw?Hill Education Limited 12.7 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies 12-32 Prevalent to compete with product development and advertising Less easily duplicated than a price change Financially able to advertise LO8 © 2016 McGraw?Hill Education Limited 12.8 Oligopoly and Advertising 12-33 Positive Effects of Advertising Low-cost way of providing information to consumers Enhances competition Speeds up technological progress Can help firms obtain economies of scale LO8 © 2016 McGraw?Hill Education Limited 12.8 Oligopoly and Advertising 12-34 Potential Negative Effects of Advertising: Can be manipulative Contains misleading claims that confuse consumers Consumers pay high prices for a good while forgoing a better, lower priced, unadvertised version of the product. LO8 © 2016 McGraw?Hill Education Limited 12.8 Oligopoly and Advertising 12-35 12.2 GLOBAL PERSPECTIVE The World’s Top 10 Brand Names, 2014 © 2016 McGraw?Hill Education Limited LO8 12-36 Oligopolies are inefficient Productively inefficient P > minATC Allocatively inefficient P > MC Qualifications Increased foreign competition Limit pricing Technological advance LO9 © 2016 McGraw?Hill Education Limited 12.9 Oligopoly and Efficiency 12-37 A few big companies dominate the Internet-and act as highly competitive oligopolists. Google – search Facebook – social networking Amazon – online shopping Microsoft – PC operating system Apple – computers, mobile phones, and tablets Aggressive competition: A near-monopoly only chance for a major profit growth is to invade a rival’s sector. The LAST WORD Internet Oligopoly © 2016 McGraw?Hill Education Limited 12-38 LO12.1 List the characteristics of monopolistic competition. LO12.2 Explain why monopolistic competitors earn only a normal profit in the long run. LO12.3 Explain why monopolistic competition delivers neither productive nor allocative efficiency. LO12.4 Relate how the ability of monopolistic competition to deliver product differentiation helps to compensate for its failure to deliver economic efficiency. LO12.5 Describe the characteristics of oligopoly. LO12.6 Discuss how game theory relates to oligopoly. LO12.7 Explain the two main models of oligopoly pricing and output: collusive pricing and price leadership. LO12.8 Contrast the potential positive and potential negative effects of advertising. LO12.9 Discuss the efficiency of oligopoly from society’s standpoint and whether it is more or less efficient than monopoly. Chapter Summary © 2016 McGraw?Hill Education Limited 12-39