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Monopolistic Competition and OligopolyThese slides supplement the textbook, but should not replace reading the textbook
What is imperfect competition?A market structure between pure competition and monopoly
What is monopolistic competition?A market structure in which a large number of firms sell close substitutes which are different enough that each firm’s demand curve slopes downward
How can firms differentiate under monopolistic competition?Physical differences Location Services Product image
What are examples of monopolistic competition?Restaurants Clothing stores Grocery stores Jewelry stores
Where are profits maximized or minimized ?MR = MC
The Firm Monopolistic Competition in the Short RunMC ATC p b Profit Dollars per unit c c e D = AR MR q Quantity per period Exhibit 1 (a)
The Firm Monopolistic Competition in the Short RunATC MC c c Loss b p Dollars per unit AVC D=AR MR q Quantity per period Exhibit 1 (b)
In monopolistic competition, can economic profit be made in the short run?Yes! Positive or negative economic profit can be made in the short run
What is long-run profit in monopolistic competition?Zero
Why is economic profit zero over the long-run?Because if economic profits are being made more firms will enter into the industry; if losses are being made more firms will leave the industry
Long Run Equilibrium in Monopolistic CompetitionMC ATC b p Dollars per unit a D = AR MR q Quantity per period Exhibit 2
How does monopolistic competition compare with perfect competition?They both make a normal profit over the long-run
MC ATC d = AR p Perfect Competition q Dollars per unitq Quantity per period Exhibit 3 (a)
What is an oligopoly? A market structure characterized by a small number of firms whose behavior is interdependent
What are examples of oligopoly?Automobiles Steel Soup Cereals
What is a possible explanation for the formation of oligopolies?Barriers to entry, such as economies of scale or a high cost of entry
Economies of Scale as Barriers to EntryDollars per unit Long-run average cost b cb Autos per year S M Exhibit 4
What is a collusion? An agreement among firms to divide the market or to fix the market price to maximize economic profit
What is explicit collusion?Cooperation involving direct communication between competing firms about setting prices
What is implicit collusion?Cooperation involving indirect communication between competing firms about setting prices
What is a cartel? A group of firms that agree to coordinate their production and pricing decisions, thereby behaving as a monopolist
What are two examples of cartels?Organization of Petroleum Exporting Countries (OPEC) International Electrical Association (IEA)
Cartel Model Where Firms Act as a MonopolistMC P Dollars per unit D = AR MR Q Quantity per period Exhibit 5
What are the problems of stability?Differences in costs Number of firms New entry Cheating
What distinguishes oligopoly?Interdependence - No firm will not take an action unless it considers the reaction from the other firms
B and C will not raise their priceImagine 3 identical firms in an industry – A, B, C. What happens if A raises price? B and C will not raise their price
B and C will lower their priceImagine 3 identical firms in an industry – A, B, C. What happens if A lowers price? B and C will lower their price
What is a price leader? A firm whose price is adopted by the rest of the industry
Who is the price leader? barometric-firm dominant firm most innovative
What is cost-plus pricing?A method of determining the price of a good by adding a percentage markup to average variable cost
What is game theory? A model that analyzes oligopolistic behavior as a series of strategic moves and countermoves by rival firms
What is a duopoly? A market with only two producers, who compete with each other; a type of oligopoly market structure
What is strategy? In game theory, the operational plan pursued by a player
What is a payoff matrix? In game theory, a table listing the payoffs that each player can expect based on the strategy that each player pursues
What is a kinked demand curve?A demand curve that illustrates price stickiness; if one firm cuts prices, others will cut theirs, but if the firm raises prices, others will not change theirs
The Kinked Demand Model of Oligopolymore elastic more inelastic P Price per unit D D' Q Quantity per period Exhibit 7
D and MR Curves for the Kinked Demand ModelP Price per unit MR1 D2 MR2 Q Quantity per period Exhibit 8
How does price under an oligopoly compare to price under perfect competition?Price is usually higher under an oligopoly
How do profits under an oligopoly compare to profits under perfect competition?Profits are higher under an oligopoly
What is a horizontal merger?A merger in which one firm combines with another firm that produces the same product
What is a vertical merger?A merger in which one firm combines with another from which it purchases inputs or to which it sells output
What is a conglomerate merger?A merger involving the combination of firms producing in different industries
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