1. Market Equilibrium and Market Demand: Imperfect Competition
Chapter 9

2. Market Structure Characteristics
We characterize an industry by
The number of firms and their size distribution
Product differentiation
Barriers to entry
The picture to the right concerned with two markets:
No. 2 yellow corn: many producers/sellers (Perfect Competition)
Farm equipment: few manufacturers/sellers (Oligopoly) 2
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3. Perfect Competition
Up to now we have been assuming the firm and market reflect conditions of perfect competition
Not a bad assumption for many agricultural subsectors
A large number of small firms: 2 million farms
A homogeneous product: No. 2 yellow corn
Freely mobile resources: No barriers to entry caused by patents, etc. or barriers to exit (???)
Perfect knowledge of market conditions: Quality outlook information from government, university and private sources 3

4. Imperfect Competition
Many markets in which farmers buy inputs and sell their products however do not reflect perfect competition conditions
Chapter 9 focuses on specific types of imperfect competitors in the farm input market
These firms are capable of setting prices farmers must pay for specific inputs 4

5. Imperfect Competition in Selling5

6. Topics for Nov 3rd Monopolistic Competition Definition
Production and Pricing Decisions
Oligopolies
Definition/Examples
Monopolies
Comparison of Market Structures
Pages 6

7. Imperfect Competition in Selling
Unlike perfect competitors who face a perfectly elastic (horizontal) demand curve
Imperfect competitors selling a differentiated product have a downward sloping demand curve $ $
Firm’s demand curve
under P.C.
Firm’s demand curve under
imperfect competition A A B B Q 7 Q

8. Page 149 Table 9-1 Imperfect Competition
Price
Quantity
Total Rev.
Avg. Revenue
Marginal Revenue 15
----- 14 2 28 13 4 52 12 6 72 10 11 8 88
100 9
108
112 7 16 18 -2 5 20 -4 22 -6 3 24 -8 26
-10 1
-12 30
-14
Firm faces a downward sloping demand curve → MR ≤ AR 2 20
Marginal Revenue (MR) : Change in revenue from the sale of the last unit of output (ΔTR÷ΔQ)
Average Revenue (AR): Total Revenue/Total output (TR÷Q)
Note: Price = Average Revenue 8
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9. Imperfect Competition in Selling
Marginal Revenue: Change in revenue from the sale of the last unit of output 9
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10. Imperfect Competition in Selling
Maximum Total Revenue
Marginal revenue in this instance is also downward sloping
MR=0 at the point where TR is at a maximum
Page 150 10

11. Types of Imperfect Competitors in Input Markets
Monopolistic Competition
Oligopoly
Monopoly
Let’s start here… 11

12. Monopolistic Competitors
Many sellers
Each firm has relatively small market share
Power to set prices somewhat like a monopoly
Face competition like perfect competition
Collusion is not possible given number of firms in the industry
No barriers to entry or exit 12
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13. Monopolistic Competitors
Product Differentiation: Each firm makes a product that is slightly different from the products of competing firms
Close substitutes but no perfect substitutes
An attempt to ↑ price will normally results in a ↓ in volume sold
Competition on Quality, Price, Marketing
Quality is design, reliability, service provided to buyer and ease of access to product
The firm faces a downward sloping demand curve
Firm must market intensively: promotions, distribution, packaging, etc. 13
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14. Monopolistic Competitors
Product differentiation does not necessarily mean there are any physical differences among products
They might all be the same, but how they are sold may make all the difference 14
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15. Monopolistic Competitors
The monopolistic competitor tries to set his/her product apart from the competition
Main method is via advertising
When this is done successfully, the demand curve becomes more vertical or inelastic
Buyers are willing to pay more because they believe it is much better than their other choices
Basis for product differentiation
Physical differences Convenience
Ambience Reputations
Appeals to vanity Snob appea 15
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16. Monopolistic Competitors
Typical Monopolistic Competitor
Tries to set firm apart from competition
New Product Development and Innovation
Advertising
Create consumer perception of product differentiation – real or imagined
Attempt to keep demand as inelastic as possible
Selling costs can be extremely high 16
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17. Monopolistic Competitors
Short run profits can exist but long run profits are reduced to 0 with industry entrants
Fast food industry is a good example
All services basically the same
Extensive use of marketing to differentiate products/services across firms
Striving to produce more products and services 17
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18. Monopolistic Competitors
Production Decision:
Determine output level where MC=MR (Why does this make sense?)
Pricing Decision:
Determine where above quantity intersects the downward sloping demand curve 18
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19. Monopolistic Competition
Short run profits exist if: PSR > ATCSR at QSR
Short run profits
The firm produces QSR where MR=MC at E
Prices its products at PSR by reading off the demand curve at quantity QSR
Represents consumer’s willingness to pay for QSR
Page 150 19

20. Monopolistic Competition Short run loss At QSR, PSR < ATCSR
Page 150 20

21. Monopolistic Competition In the Long Run (LR) PLR = ATCLR
Profits are bid away as more firms enter the market
Losses will no longer exist as firms leave the market
At QLR the remaining firms are just breaking even
PLR = ATCLR
Monopolistic
Competition 21
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22. Monopolistic Competitors
How much is the industry dominated or not dominated by few suppliers
Geographical scope – national, regional, global
An industry can be almost perfectly competitive on a national scope, but almost a monopoly locally e.g. Feed Retailing
Barriers to entry and exit: industries may appear concentrated but few barriers exist to prevent entry 22
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23. Monopolistic Competitors
Quantitative measures of competition
Concentration Ratio (CR): 2,4, 8, 20, etc
% of the value of total market revenue accounted for by 2, 4, 8, 20, etc. largest firms in the industry
Low CR values→ a high degree of competition
High CR values → an absence of competition 23
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24. Monopolistic Competitors
Quantitative measures of competition
Herfindahl-Hirschman Index (HHI): The square of the % market share of each firm summed over the largest 50 firms in an industry or all firms if < 50 in industry
Perfect competition, HHI is small
Only 1 firm, HHI is 10,000 = (1002)
U.S. Justice Department
HHI < 1,000 competitive markets
HHI > 1,800 could be considered concentrated industry worthy of Justice Dept. examination of any purchases 24
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25. Oligopolies A few number of sellers
Each can impact market price & quantities
Interdependent in their decision making
Key component in marketing strategies and pricing behavior
Match price cuts but not price increases by fellow oligopolists
Do this to maintain market share
Non-price competition between oligopolists to uniquely identify products 25
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26. Oligopolies
Rival oligopolists will match price cuts but not price increases in the short run because they want to capture a larger market share
If there are differences in prices they are the result of successful product differentiation
Tend to have stable prices
Changes in production and other costs not easily passed on and may have to be absorbed 26
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27. Oligopolies Price leadership strategy
A particular firm dominates the market
Controls the largest share of the market
Other industry firms more efficient in operation, marketing, etc.
The dominant firm first sets its price to maximize profit
Remaining firms set their prices based on the dominant firms pricing
The price set by the oligopolist seller is higher under perfect competition
Quantity produced is lower then perfect comp. 27
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28. Oligopolies
The dominant firm may be efficient enough to set a lower price
Eventually drive the other firms out of the market 28
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29. Oligopolies Examples of Oligopolies Auto manufacturers
1997 CR4 value of 97.4
Aircraft manufacturing
Farm machinery and equipment
John Deere, J.I.Case and New Holland
80% of 2-wheel drive tractors
close to 90% of combines sold in the U.S.
Cattle slaughtering
CR4 value increased from 39% to 67% over the period 29
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30. Demand curve DD
All oligopolists move prices together and share market
Demand curve dd
A single firm changes its price
Curve DD is more inelastic
Below point 1, firms match price cut
This leads to a kinked demand curve d1D
Leads to a discontinuous marginal revenue curve, d256 6
Remember oligopolists account for the reaction of other firms so there is no single demand curve 30
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31. Meeting demand along the lower segment of the kinked demand curve → the firm is maintaining its market share
Page 154 31

32. It does impact profits as MC drops from pt 3 to pt 4
Shifting MC curves reflecting technological advances will not affect PE and QE
It does impact profits as MC drops from pt 3 to pt 4
Page 154 32

33. Monopolies One seller in the market
Entry of other firms restricted by patents, etc. (i.e., barrier to entry)
Firm has absolute power over setting market price
Produces a unique product
It can have economic profits in the long run because it can set price without competition 33
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34. Monopolies Page 155-156 Total revenue = area 0PECQE
$/unit
Total revenue = area 0PECQE
Monopolist produces quantity where MC=MR (pt A), QE
Uses the demand curve (pt C) when setting price PE
ATC MC
AVC C PE B M A N
Demand= AR
TVC MR
Quantity QE 34
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35. Monopolies
$/unit
ATC MC
AVC
Total variable costs for the monopolist is equal to area 0NAQE, (green box)
=AVC x QE
= 0N x QE C PE B M A N
Demand= AR
TVC MR
Quantity QE 35
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36. Monopolies Total fixed costs equals NMBA (orange box) =(ATC-AVC) x QE
$/unit
ATC MC
AVC C PE
Total fixed costs equals NMBA (orange box)
=(ATC-AVC) x QE B M
TFC A N
Demand= AR MR
Quantity QE 36
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37. Monopolies Total cost is area 0MBQE (green box + orange box)
$/unit
ATC MC
AVC C
Total cost is area 0MBQE (green box + orange box)
= area ONAQE + area NMBA PE B M
TFC N A
Demand= AR
TVC MR
Quantity QE 37
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38. Monopolies Page 155-156 ATC MC AVC
$/unit
Economic
Profit
ATC MC
AVC C PE
Monopoly economic profit = area MPECB
= Total Revenue (yellow box) – Total Costs (green box + orange box) B M
TFC A N
Demand= AR
TVC MR
Quantity QE 38
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39. Monopolies Total fixed costs equals NMBA (orange box) =(ATC-AVC) x QE
$/unit
ATC MC
AVC C PE
Economic
Profit
Total fixed costs equals NMBA (orange box)
=(ATC-AVC) x QE B M
TFC A N
Demand= AR
TVC MR
Quantity QE 39
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40. Comparison of Structure Results
Lets compare the results we have obtained from the alternative market structures 40

41. Consumer surplus = sum of areas 1, 4, 5, 8 and 9 (blue triangle)
Perfect Competition Case
Consumer surplus = sum of areas
1, 4, 5, 8 and 9 (blue triangle) 41
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42. Producer surplus = to the sum of areas 2, 3, 6 and 7 (green triangle)
Perfect Competition Case
Producer surplus = to the sum of areas 2, 3, 6 and 7 (green triangle)
Page 157 42

43. Total economic surplus = sum of blue and green triangles
Perfect Competition Case
Total economic surplus = sum of blue and green triangles
=sum of areas 1 – 9
Page 157 43

44. CS = sum of areas 8 and 9, (new blue triangle)
Compared to P.C., consumers would be economically worse-off by areas 1, 4 and 5
Paying a higher price, PM
Purchasing a smaller quantity, QM
Monopoly Case
Page 157 44

45. PS = to sum of areas 3, 4, 5, 6 and 7 (green area)
Compared to P.C. producers lose area 2 but gain areas 4 + 5
Economically better-off than P.C.
Monopoly Case
Page 157 45

46. Society as a whole would be economically worse-off by areas 1+2
Known as the dead weight loss
Reflects the fact that less of available resources in this market are used to provide products to consumers
Monopoly Case 46
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47. Summary of Imperfect Competitors from a Selling Perspective
Page 157 47

48. Imperfect Competition From the Buying Perspective48

49. Types of Imperfect Competitors on the Buying Side
Monopsonistic competition
Oligopsony
Monopsony
Let’s start here… 49

50. Monopsonies Single buyer in the input market
Focus is on the marginal input cost of purchasing an addition unit of resources
Will purchase input until Marginal Value Product (MVP)=Marginal Input Cost (MIC)
As long as MVP>MIC, the monopsonist makes a profit 50
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51. Monopsonies
Under perfect competition, the firm views the input supply curve as a horizontal line
Firm can purchase as much as desired as the going price
Firm’s purchase does not impact inputs cost
Monopsonist is the only input buyer
→Faces an upward sloping input supply curve
Buying decisions impact input prices 51
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52. Monopsonies
Monopsonist must consider the marginal input cost (MIC) when purchasing inputs
MIC defined as the change in the cost of an input as more of the input is used
Lets look at a simple example
Monopsonist must pay higher prices per unit if he/she wants to purchase greater amounts of the input
→MIC curve is above the input supply curve 52
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53. Units of Variable Input
Marginal Input Cost
Units of Variable Input
Price/Unit ($)
Total Input Cost
Marginal Input Cost 1
3.00
----- 2
3.50
7.00
4.00 3
12.00
5.00 4
4.50
18.00
6.00 5
25.00 6
5.50
33.00
8.00 7
42.00
9.00 8
6.50
52.00
10.00 9
63.00
11.00 10
7.5
75.00 53
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54. Marginal Input Cost Marginal Input Cost Input Supply Curve12 11 10 9 8
Input Supply Curve 7
$/Unit 6 5 4
Data obtained from
previous table 3 2 1 1 2 3 4 5 6 7 8 9 10
Quantity/unit of time 54
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55. Monopsonies Profit maximizing monopsonist
Use variable input to the point where Marginal Input Cost (MIC) =Marginal Revenue Product (MRP)
MRP = addition to total revenue attributed to the addition of one unit of variable input = Marginal revenue x MPP
So long as MRP>MIC, profits will increase with increased input use
If MRP<MIC, profits will ↑ by reducing the amount of input used (Why?) 55
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56. Buying Decisions by Perfect Competitors
MRP = MVP under perfect competition
MVP=PPC x MPP
Page 160 56

57. Buying Decisions by a Monopsonist
Monopsonist makes decisions along MRP curve
Differs from MVP
MRP=MIC at A
Purchase QM inputs
Buying Decisions by a Monopsonist 57
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58. Buying Decisions by a Monopsonist
Resource use
Higher Price paid under P.C., PPC
Utilization higher under P.C., QPC
Price difference referred to as monopsonistic exploitation (i.e., PPC – PM)
Buying Decisions by a Monopsonist 58
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59. Imperfect Competition on Both Sides
Product Selling Perspective
Input Purchasing Perspective
Perfect Competition
Monopolistic Competition
Monopsonistic Competition
Oligopoly
Oligopsony
Monopoly
Monopsony
Can have any combination of the above for a particular firm
Lets look at profit maximization under specific cases 59
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60. Case #1: Monopsonist in input purchasing and Monopolist seller of product
Equilibrium: MRP=MIC at Point A.
Pricing off input supply curve gives QMM and PMM 60
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61. Case #2: Perfect Competition in input purchasing and Monopoly seller
Equilibrium is where MRP=Supply at C
No Marginal InputCost curve → QPCM and PPCM 61
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62. Case #3: Monopsony in input purchasing and Perfectly Competitive seller
Equilibrium: MVP=MIC at Point E
Pricing off supply curve → QMPC and PMPC 62
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63. Case #4: Perfect Competition in both input purchasing and product sales
Equilibrium: MVP=Supply at Point F
→ QPC and PPC 63
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64. Monopsonistic Competitors
Many firms buying resources
Ability to differentiate services to producers
Differentiated services includes distribution convenience and location of facilities, willingness to provide credit or technical assistance
P and Q determined same as monopsonist 64
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65. Oligopsonies A few number of buyers of a resource
Profit earned will depend on elasticity of supply for resource (less elastic than monopsonistic competition)
Each oligopsonist knows fellow oligopsonists will respond to changes in price or quantity it might initiate
P and Q determined same as monopsonist 65
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66. Various segments of the livestock industry
Exhibit several forms of imperfect competition. 66
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67. Governmental Regulation
Various approaches have been used to counteract adverse effects of imperfect competition in the marketplace
Legislative acts passed by Congress, including the Sherman Antitrust and Clayton Acts
Price ceilings
Lump-sum Tax
Minimum price or floors 67
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68. Legislative Acts Sherman Antitrust Act of 1890
Prohibited monopoly and other restrictive business practices
Packers and Stockyards Act of 1921
Reinforced Anit-trust laws regarding livestock marketing
Capper-Volstead Act of 1922
Exempted cooperatives from anti-trust laws
Robinson-Patman Act
Prohibited price discrimination practices
Agricultural Marketing Agreement Act
Established agricultural marketing orders 68
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69. Impacts of Price Ceilings
Regulatory agencies such as the Federal Trade Commission can impact monopoly effects by instituting a maximum (ceiling) price
FTC charged with investigating business organizations and practices and carrying out anti-trust provisions
How can we model the impact of price ceilings? 69
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70. Impacts of Price Ceilings Implications of a Price Ceiling
Without regulatory involvement the monopolist will
Equate MR and MC (point C)
Produce QM and charge price PM
Earn a profit of A′PMBD D A′ 70
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71. Impacts of Price Ceilings Implications of a Price Ceiling
With gov’t imposed price ceiling, PMAX
The demand curve is given by PMAXED
MR is PMAXEFG
Mono. produces more (Q1>QM) at a lower price (PMAX < PM) A′ D 71
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72. Impacts of Price Ceilings Implications of a Price Ceiling
Monopolist’s profit falls to area IPMAXEH (turquoise box) A′ 72
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73. Impacts of a Lump Sum Tax
A regulatory agencies can impact the level of monopoly profits by assessing a lump-sum tax
May be a license fee or one-time charge
Corresponds to a fixed tax regardless of output level
How can we model the impact of a lump sum tax? 73
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74. Impacts of A Lump Sum Tax Implications of Lump-Sum Tax
The monopolist equates MC=MR (pt. F)
Produces QM
Charges PM
Profit of APMBC
Page 165 74

75. Impacts of A Lump Sum Tax Implications of Lump-Sum Tax
↑ firm’s ATC from ATC1 to ATC2
↓ producer surplus from APMBC to EPMBT
Does not change output level or price
The loss in producer
surplus is area AETC
(blue box)
Page 165 75

76. Impacts of a Minimum Price
In a monopsony, the gov’t could regulate the price of a resource by imposing a minimum price that must be paid for that resource
Good example is the various minimum wage laws
How can we model the impact of a minimum price policy? 76
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77. Impacts of a Minimum Price Implications of a Minimum Price
No minimum price
Monopsonist determines where MRP=MIC
Employ QM input units
Pays $PM/unit
Implications of a Minimum Price 77
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78. Impacts of a Minimum Price Implications of a Minimum Price
Minimum price, PF, imposed
Monopsonist’s MIC curve would be PFDCB
The firm would use more input
Implications of a Minimum Price 78
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79. Summary
Unlike perfect competition, imperfect competitors have ability to influence price
Monopolistic competitors try to differentiate their product
Monopolists are the only seller in their product market. Monopsonists are the only buyer
Oligopolies are a few number of sellers while oligopsonies are a few number of buyers.
What are the economic welfare implications of imperfect competition? 79

80. Chapter 10 focuses on resource use in agriculture and the environment80