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CHAPTER 9 Monopolistic Competition and Oligopoly 1 Part Two: Microeconomics of Product Markets Slides prepared by Bruno Fullone, George Brown College.

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Presentation on theme: "CHAPTER 9 Monopolistic Competition and Oligopoly 1 Part Two: Microeconomics of Product Markets Slides prepared by Bruno Fullone, George Brown College."— Presentation transcript:

1 CHAPTER 9 Monopolistic Competition and Oligopoly 1 Part Two: Microeconomics of Product Markets Slides prepared by Bruno Fullone, George Brown College. Edited by Laura Lamb ©2010 McGraw-Hill Ryerson Ltd.

2 2 Slides prepared by Bruno Fullone, George Brown College 9.1 Characteristics of Monopolistic Competition Relatively Large Number of Sellers –Small Market Shares –No Collusion –Independent Action ©2010 McGraw-Hill Ryerson Ltd.

3 3 Slides prepared by Bruno Fullone, George Brown College Characteristics of Monopolistic Competition Differentiated Products Product Attributes Service Location Brand Names and Packaging Some Control Over Price ©2010 McGraw-Hill Ryerson Ltd.

4 Short-Run Profits Quantity Price and Costs MR = MC MC MR D1D1 ATC Economic Profit Q1Q1 A1A1 P1P1 0 Figure 9-2 Monopolistic Competition 4 Slides prepared by Bruno Fullone, George Brown College ©2010 McGraw-Hill Ryerson Ltd.

5 Short-Run Losses Quantity Price and Costs MR = MC MC MR D2D2 ATC Loss Q2Q2 A2A2 P2P2 0 Monopolistic Competition 5 Slides prepared by Bruno Fullone, George Brown College ©2010 McGraw-Hill Ryerson Ltd.

6 Long-Run Equilibrium Quantity Price and Costs MR = MC MC MR D3D3 ATC Q3Q3 P 3 = A 3 0 Monopolistic Competition 6 Slides prepared by Bruno Fullone, George Brown College ©2010 McGraw-Hill Ryerson Ltd.

7 Complicating factors Some firms may earn economic profits greater than zero in the long run. –Why? ©2010 McGraw-Hill Ryerson Ltd. Slides prepared by Bruno Fullone, George Brown College

8 8 Monopolistic Competition and Efficiency 1. Allocative Efficiency P > MC Too little is produced 2. Productive Efficiency Costs high Excess capacity ©2010 McGraw-Hill Ryerson Ltd.

9 9 Slides prepared by Bruno Fullone, George Brown College Product Variety Benefits Better match to consumer tastes Better products Tradeoff between variety and efficiency Further Complexity Price, product, and advertising must be juggled to achieve maximum profit ©2010 McGraw-Hill Ryerson Ltd.

10 10 Slides prepared by Bruno Fullone, George Brown College 9.3 Oligopoly: Characteristics A Few Large Producers Homogeneous or Differentiated Products Control Over Price, but Mutual Interdependence Entry Barriers Economies of scale High capital costs Ownership of raw materials Mergers ©2010 McGraw-Hill Ryerson Ltd.

11 Two ways to measure industry concentration 1. Concentration ratio The four-firm concentration ratio gives the percentage of total industry sales accounted for by the four largest firms. ©2010 McGraw-Hill Ryerson Ltd. Slides prepared by Bruno Fullone, George Brown College

12 Herfindahl Index ©2010 McGraw-Hill Ryerson Ltd.

13 13 Slides prepared by Bruno Fullone, George Brown College 9.4 Game Theory Overview Oligopolists must make plans in light of the actions and expected reactions of their rivals Basic concepts: Players Rules Strategies Payoffs Equilibrium ©2010 McGraw-Hill Ryerson Ltd.

14 14 Slides prepared by Bruno Fullone, George Brown College Prisoner’s Dilemma Two prisoners cannot communicate Difficult to cooperate, even when mutually beneficial ©2010 McGraw-Hill Ryerson Ltd.

15 Slides prepared by Bruno Fullone, George Brown College Prisoner’s Dilemma Payoff Matrix Confess Not confess Confess Not confess confess Al’s strategies Bruno’s strategies A B CD Figure 9-5 ©2010 McGraw-Hill Ryerson Ltd.

16 Slides prepared by Bruno Fullone, George Brown College Profit Payoff for a Two-Firm Oligopoly High Low High Low RareAir’s price strategy Uptown’s price strategy A B CD $12$15 $6$8 $12 $6 $15 $8 If both firms choose a high-price strategy, each choose a high-price strategy, each earns $12 million in profit If both firms choose a high-price strategy, each choose a high-price strategy, each earns $12 million in profit Collusive tendencies ©2010 McGraw-Hill Ryerson Ltd.

17 Slides prepared by Bruno Fullone, George Brown College 9.5 The Incentives and Obstacles to Collusion: Two Oligopoly Strategies Two distinct pricing strategies: 1.Collusive pricing 2.Price leadership There is no one simple model to predict outcomes due to: –Diversity of oligopolies –Complications of interdependence ©2010 McGraw-Hill Ryerson Ltd.

18 Slides prepared by Bruno Fullone, George Brown College Cartels and Other Collusion: Cooperative Strategies Collusion: any agreement to fix prices, divide up the market, or otherwise restrict competition Each firm acts as if it were a pure monopolist Illustrated… ©2010 McGraw-Hill Ryerson Ltd.

19 Slides prepared by Bruno Fullone, George Brown College Q D MC ATC MR P MR=MC Price and Costs Q0Q0Q0Q0 A0A0A0A0 P0P0P0P0 Economic profit Collusion and Joint-Profit Maximization Figure 9-7 ©2010 McGraw-Hill Ryerson Ltd.

20 Slides prepared by Bruno Fullone, George Brown College Cartels and Other Collusion: Cooperative Strategies Three identical firms Each firm finds it most profitable to charge P 0, but only if its rivals do The answer: collude and agree on price P 0 ©2010 McGraw-Hill Ryerson Ltd.

21 21 Slides prepared by Bruno Fullone, George Brown College Overt Collusion – The OPEC Cartel ©2010 McGraw-Hill Ryerson Ltd.

22 22 Slides prepared by Bruno Fullone, George Brown College Obstacles to Collusion Demand and Cost Differences Number of Firms Cheating Recession Potential Entry Legal Obstacles: Competition Policy ©2010 McGraw-Hill Ryerson Ltd.

23 23 Slides prepared by Bruno Fullone, George Brown College Price Leadership Model Dominant firm leads the way Leadership strategy: Infrequent Price Changes Communications Limit Pricing Breakdowns in price leadership: price wars ©2010 McGraw-Hill Ryerson Ltd.

24 24 Slides prepared by Bruno Fullone, George Brown College 9.6 Oligopoly and Advertising Oligopolists prefer not to compete on price Product development and advertising preferred: Less easily duplicated Oligopolists have sufficient financial resources ©2010 McGraw-Hill Ryerson Ltd.

25 25 Slides prepared by Bruno Fullone, George Brown College Positive Effects of Advertising 1.Low cost source of information 2.Can diminish monopoly power 3.Can speed up technological progress ©2010 McGraw-Hill Ryerson Ltd.

26 26 Slides prepared by Bruno Fullone, George Brown College Potential Negative Effects of Advertising 1.Only persuasion 2.Misleading claims 3.Barrier to entry 4.Self-cancelling advertising ©2010 McGraw-Hill Ryerson Ltd.

27 27 Slides prepared by Bruno Fullone, George Brown College Global Perspective 9.2 ©2010 McGraw-Hill Ryerson Ltd.

28 28 Slides prepared by Bruno Fullone, George Brown College Oligopoly and Efficiency Impossible to say anything definitive Outcomes could be identical to monopoly Unlikely because of: 1.Increased foreign competition 2.Limit pricing 3.Technological advance ©2010 McGraw-Hill Ryerson Ltd.

29 29 Slides prepared by Bruno Fullone, George Brown College The Last Word: Oligopoly in the Beer Industry Since WW II degree of concentration has been increasing, mostly due to mergers Today 80% of production controlled by 2 major companies However, imports and microbreweries are starting to eat away at market share of majors ©2010 McGraw-Hill Ryerson Ltd.


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