2. Non-competitive markets G 2 / 1 2. Non-competitive markets GENERAL ECONOMICS 5 Copyright Mark Van Couwenberghe, 2017-2018

2.0 OVERVIEW G 2 / 2 2.1 FULL COMPETITIVE MARKETS page G 2 / 3 2.2 NON-COMPETITIVE MARKETS: OVERVIEW page G 2 / 4 2.3 MONOPOLISTIC COMPETITION page G 2 / 5 2.4 OLIGOPOLY page G 2 / 10 2.5 MONOPOLY page G 2 / 15 2.6 EXERCISES page G 2 / 20 2.7 VOCABULARY page G 2 / 34 Copyright Mark Van Couwenberghe, 2017-2018

X.1 FULL COMPETITIVE MARKETS G 2 / 3 X.1 FULL COMPETITIVE MARKETS Full competitive markets have 4 characteristics: These markets do not exist in reality, apart from a few exceptions Competitive markets represent the ideal situation; they serve as a model Characteristic Explanation Atomism Huge number of suppliers; one supplier can not influence the market price Homogeneity Consumers are indifferent towards products; there is no difference in quality between products Transparancy Price information is directly and easily available Mobility New suppliers can easily enter the market; no entry barriers Copyright Mark Van Couwenberghe, 2017-2018

X.2 NON-COMPETITIVE MARKETS: OVERVIEW G 2 / 4 X.2 NON-COMPETITIVE MARKETS: OVERVIEW In reality, most markets are non-competitive Characteristic MONOPOLISTIC COMPETITION OLIGOPOLY MONOPOLY Example Market of crisps Telecom market Market of public train transport Atomism Y N Homogeneity n/a Transparancy Mobility Copyright Mark Van Couwenberghe, 2017-2018

X.3 MONOPOLISTIC COMPETITION G 2 / 5 X.3 MONOPOLISTIC COMPETITION Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 6 Monopolistic competition is a market where a huge number of suppliers sell products that are similar, but at the same time “unique”, and therefore different 1) ATOMISM: if you consider all suppliers of crisps; well-known brands, smaller brands, private labels, no supplier can influence the market price 2) HOMOGENEITY: the crisp market is a rich mixture of brands: A brands = top-of-mind brands because suppliers make heavy promotion and advertising, these brands have a rich history, you can buy them everywhere… >>> these brands have a high reputation, loyal customers and are premium- priced B brands = less known brands that are cheaper because less budget is invested in promotion and advertising, >>> you may not find them everywhere Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 7 Private labels = brands that carry the name of the supplier or a name owned by the supplier >>> these brands are discount-priced and do not have a high “quality” perception (product tests however show that, in some cases, private labels have a quality that can compete with A brands) 3) TRANSPARANCY: price tag, advertising, … display price information 4) MOBILITY: small brands prove that there are no barriers for new market players Suppliers are not price takers, but “price makers” or “price searchers” Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 8 Product differentiation: suppliers apply product differentiation to make their brand “unique”; this can be done in 7 ways: Product: taste, logo, packaging, features, … Price: premium price: going-rate price: discount price: Promotion: advertising, promotional activities, … Place: online/offline, distribution channels, selling-points, … Customer service: after sales service, product training, … Warranty Image and prestige In a way, every supplier owns the market segment for his brand (“monopolistic”); this limits competition, since products are not homogeneous, but heterogeneous (consumers are no longer indifferent) marketing mix Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 8unus The last element we will look into now, is how players in this market are setting their price Before analyzing the price mechanism, let’s refresh our memories: Suppliers want to achieve maximum ……………….. This means they must find the quantity and price for which the difference between ……………….. and ……………….. Is at its maximum That is the equilibrium for the supplier: ………………. = ………………. These are some basic formulas and a basic graph: TP = TR – TC TR = AR (P) . Q TC = TFC + TVC TC = AC (ATC) . Q MR = ∆ TR / ∆ Q MC = ∆ TC / ∆ Q Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 8duo comments: Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 9 Price mechanism: AR curve = demand curve The higher the price set by the supplier, the lower the demand The supplier chooses the combination of P and Q that generates the highest difference between renevue and costs: MR = MC Equilibrium >>> P e and Q e P e P e P e AC e Q e Remark: AR curve is quite “flat”: Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 10 X.4 OLIGOPOLY Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 11 Oligopoly is a market where a small number of suppliers dominate the market 1) ATOMISM: 3 suppliers dominate the Belgian telecom market 2) HOMOGENEITY: like in monopolistic competition, oligopolies have a range of brands, and suppliers apply product differentiation 3) TRANSPARANCY: company’s websites, shops, advertising, … display price information 4) MOBILITY: the telecom market is characterized by a number of barriers for newcomers to enter the market; example: government licenses to offer mobile telephone communication are very expensive Suppliers are not price takers, but “price makers” or “price searchers” Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 12 There are 2 types of oligopolies: Homogeneous: homogeneous product (example: electricity market) Heterogeneous: heterogeneous product (example: passenger planes) Price is a “dangerous” tool to differentiate, because competition is much closer than in monopolistic competition If supplier decreases the price to make more profit, other suppliers may probably decrease their price too >>> suppliers may start a price war possible consequence of price war: winner of price war: If supplier increases the price to make more profit, other suppliers may probably not adjust their price, they may not follow Price levels will therefore stay at a certain level: this is called “price rigidity” (suppliers will only change their price in special circumstances, for example when there is a significant increase in production costs) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 13 Because of the “danger” to change price levels and the price rigidity, suppliers may be “tempted” to start-up price agreements This is called “cartel” (or “collusion”) Cartels are illegal, because they are not in line with the principle of fair competition Other than price agreements, cartels may also agree on production volumes or divide markets among the suppliers (see later) Oligopolies are also characterized by “price leadership” The strongest supplier may have the biggest power to set the price levels Other suppliers will “follow” the price leader (example: ABInbev) Specific segment of economic science (game theory) deals with oligopolies (see special chapter on economics and mathematics) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 14 Price mechanism: AR curve = demand curve The demand curve is “kinked”: D1 = more elastic: D2 = more inelastic: The supplier chooses the combination of P and Q at the level of the kink Equilibrium >>> P e and Q e P e AC AC e AR Q e Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 15 X.5 MONOPOLY Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 16 Monopoly is a market where 1 supplier dominates the market 1) ATOMISM: 1 supplier has the “legal monopoly” to organize public train transport 2) HOMOGENEITY: not applicable since there is only 1 supplier 3) TRANSPARANCY: company’s website, stations, vending machines, … display price information 4) MOBILITY: since there is a “legal monopoly”, no other supplier is allowed to enter the market Monopolists are not price takers, but “price makers” of “price searchers” Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 17 There are 3 types of monopolies: Legal: the law “installed” the monopoly and forbids other companies to enter the market State monopoly (such as NMBS) Technological monopoly (companies obtained a legal patent that allows them to “market” their technology as a single supplier) (patents are limited in time though) Why are patents granted? Give some examples of technological monopolies: Natural: natural circumstances create monopolistic situation (example: diamond mines in Republic of South-Africa) Factual: huge investments, huge scale of operations (cost efficiencies/economies of scale) of existing company make it hardly possible for newcomers to enter the market and be profitable Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 18 Pure monopolies are very hard to find, since in many monopolistic markets, (indirect) substitutes are available governments fight monopolies and monopolistic situations (see later) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 19 Price mechanism: AR curve = demand curve The higher the price set by the supplier, the lower the demand The supplier chooses the combination of P and Q that generates the highest difference between renevue and costs: MR = MC Equilibrium >>> Q e and P e P e AC e Q e E = “Cournot point” = Remark: AR curve is quite “steep”: Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 20 X.6 EXERCISES 1)This is the demand curve of a monopolist: Q = 10 – 0,2 . P and this is the TC curve: TC = 10 . Q + 40 - calculate the MR curve - calculate the MC curve Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 21 - calculate the Cournot point - calculate the maxmum profit (+ profit curve) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 22 2) A monopolist sells his products in 2 separate segments of the market. This is the demand curve on market A: Q = 20 – P This is the demand curve on market B: Q = 30 – 2 . P and this is the TC curve: TC = 4 . Q + 1 If a monopolist sells his products in 2 separate segments of the market and applies different prices, we call this “price discrimination” example: NMBS sells train tickets at “normal prices” and tickets with price reduction (students, retired persons) crucial: these market segments are separated: consumers can not switch markets price discrimation is a technique to increase profit: demand from consumers in different market segments has different “price elasticities”; NMBS as a monopolist uses this information to set different prices and thus also attract a maximum of consumers with a lower budget Give other examples of price discrimination in the market: Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 23 Perform the following calculations for every market segment: - calculate the MR curve - calculate the MC curve Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 24 - calculate the Cournot point - calculate the maxmum profit (+ profit curve) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 25 Then perform the following calculations for the total market: - calculate the total AR curve - calculate the MR curve Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 26 - calculate the MC curve - calculate the Cournot point Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 27 - calculate the maxmum profit (+ profit curve) Compare the maximum profit you calculated for the different market segments with the maximum profit for the total market: what is your conclusion? Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 28 3) This is the TC curve of a supplier in a market of monopolistic competition: TC = 5 . Q² + 600 AR curve: Q = 1200/70 - 6/70 . P - calculate the MR curve - calculate the MC curve Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 29 - calculate the Cournot point - calculate the maximum profit (+ profit curve) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 30 4) Perform an analysis of the Belgian beer market: - who are the top-5 market players and what are their market shares? (write- down examples of beer brands for each supplier) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 31 - explain why this market is an oligopoly: - explain how ABInbev is acting as “price leader” Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 32 - write-down 3 recent examples of “cartels” / “price collusion” in the Belgian economy (what market? who was involved? why did they do it?) Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 33 5) Draw the profit maximization graph of a supplier who operates in a full competitive market + write-down your comments: Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 34 2.7 VOCABULARY EN NL Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 35 EN NL Copyright Mark Van Couwenberghe, 2017-2018

G 2 / 36 EN NL Copyright Mark Van Couwenberghe, 2017-2018