1. Monopolistic Competition and Oligopoly Superior Cheese CHAPTER TWENTY-FIVE

2. Four Market Models Market Structure Continuum PureCompetition PureMonopoly MonopolisticCompetition

3. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers

4. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share

5. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion

6. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions

7. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions Product Differentiation Product Differentiation

8. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions Product Differentiation Product Differentiation Product Attributes

9. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions Product Differentiation Product Differentiation Product Attributes Services

10. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions Product Differentiation Product Differentiation Product Attributes ServicesLocation

11. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions Product Differentiation Product Differentiation Product Attributes ServicesLocation Brand Names and Packaging

12. Monopolistic Competition Characteristics... Relatively Large Numbers Relatively Large Numbers Small Market Share No Collusion Independent Actions Product Differentiation Product Differentiation Product Attributes ServicesLocation Brand Names and Packaging Some Control Over Price

13. Easy Entry and Exit Monopolistic Competition Characteristics...

14. Easy Entry and Exit Nonprice Competition Nonprice Competition Monopolistic Competition Characteristics...

15. Easy Entry and Exit Nonprice Competition Nonprice Competition Advertising Advertising Monopolistic Competition Characteristics...

16. Easy Entry and Exit Nonprice Competition Nonprice Competition Advertising Advertising Monopolistically Competitive Industries Monopolistically Competitive Industries Monopolistic Competition Characteristics...

17. Short-Run Price and Output Determination Q P Price and Costs Monopolistic competitors have an elastic demand curve, but not perfectly elastic... Copyright McGraw-Hill, Inc., 1999

18. Q D P Price and Costs Copyright McGraw-Hill, Inc., 1999 Short-Run Price and Output Determination

19. Q D MR P Price and Costs Copyright McGraw-Hill, Inc., 1999 Short-Run Price and Output Determination

20. Q D MR MC P Price and Costs Q Copyright McGraw-Hill, Inc., 1999 Short-Run Price and Output Determination

21. Q D MR MC P ATC Price and Costs Q Copyright McGraw-Hill, Inc., 1999 Short-Run Price and Output Determination

22. Q D MR MC P ATC Price and Costs Q Economic Profits Expect New Competitors Short-Run Price and Output Determination

23. Q D MR MC P ATC Price and Costs Q Economic Profits How would short-run losses be different? How would short-run losses be different? Expect New Competitors Short-Run Price and Output Determination

24. Q D MR MC P ATC Price and Costs Q Economic Losses ExpectLessCompetitors Short-Run Price and Output Determination

25. Q D MR MC P ATC Price and Costs Q Economic Losses ExpectLessCompetitors How would the long-run differ? How would the long-run differ? Short-Run Price and Output Determination

26. Q D MR MC P ATC Price and Costs Q Economic Profits Expect New Competitors Short-Run Price and Output Determination

27. Q D MR MC P ATC Price and Costs Q Long-run equilibrium Short-Run Price and Output Determination Q @ ATC Min ? P = MC

28. Monopolistic Competition and Economic Efficiency

29. Monopolistic Competition and Economic Efficiency Not Productively Efficient Not Productively Efficient

30. Monopolistic Competition and Economic Efficiency Not Productively Efficient Not Productively Efficient Not Allocatively Efficient Not Allocatively Efficient

31. Monopolistic Competition and Economic Efficiency Not Productively Efficient Not Productively Efficient Not Allocatively Efficient Not Allocatively Efficient Excess Capacity Excess Capacity

32. Monopolistic Competition and Economic Efficiency Nonprice Competition Not Productively Efficient Not Productively Efficient Not Allocatively Efficient Not Allocatively Efficient Excess Capacity Excess Capacity

33. Monopolistic Competition and Economic Efficiency Nonprice Competition Product Differentiation Product Differentiation Not Productively Efficient Not Productively Efficient Not Allocatively Efficient Not Allocatively Efficient Excess Capacity Excess Capacity

34. Monopolistic Competition and Economic Efficiency Nonprice Competition Product Differentiation Product Differentiation Product Development Product Development Not Productively Efficient Not Productively Efficient Not Allocatively Efficient Not Allocatively Efficient Excess Capacity Excess Capacity

35. Features of a Monopolistic Competitive Markets: 1. Many sellers 2. Unique Products that have close or identical substitutes: Big Mac v Whopper 3. Small barrier to entry or exit 4. Some market power exists 5. Price is greater than MR, Separate DARP and MR curves 6. Non price competition and advertising exist 7. Profits maximized at the Quantity and Price where MC = MR 8. Excess or Economic Profits in the Short Run only (P>ATC) 9. Profits must be Normal in the Long Run (P=ATC) 10. Firms should shut down when P < AVC 11. Excess capacity exists in terms of potential output 12. Demand is relatively elastic by comparison to monopoly 13. Example market - Minimarts, Fast food at local franchises 14. This market is much closer to perfect competition than pure monopoly

36. Four Market Models Oligopoly Market Structure Continuum PureCompetition PureMonopoly MonopolisticCompetition

37. Oligopoly: Characteristics

38. Oligopoly Defined Oligopoly Defined

39. Oligopoly: Characteristics Oligopoly Defined Oligopoly Defined Homogeneous or Differentiated Products Homogeneous or Differentiated Products

40. Oligopoly: Characteristics Oligopoly Defined Oligopoly Defined Homogeneous or Differentiated Products Homogeneous or Differentiated Products Control over Price Control over Price

41. Oligopoly: Characteristics Oligopoly Defined Oligopoly Defined Homogeneous or Differentiated Products Homogeneous or Differentiated Products Control over Price Control over Price Mutual Interdependence Mutual Interdependence

42. Oligopoly: Characteristics Oligopoly Defined Oligopoly Defined Homogeneous or Differentiated Products Homogeneous or Differentiated Products Control over Price Control over Price Mutual Interdependence Mutual Interdependence Entry Barriers Entry Barriers

43. Oligopoly: Characteristics Oligopoly Defined Oligopoly Defined Homogeneous or Differentiated Products Homogeneous or Differentiated Products Control over Price Control over Price Mutual Interdependence Mutual Interdependence Entry Barriers Entry Barriers Mergers Mergers

44. Concentration Ratios Concentration Ratios Oligopoly: Characteristics Ratios that look at what the concentration of firms are in the industry.

45. Concentration Ratios Concentration Ratios - Herfindahl Index – The larger - Herfindahl Index – The larger the index number the higher the concentration of the industry. Oligopoly: Characteristics

46. Oligopoly Behavior A Game Theory Overview... High Low HighLow Uptown’s Price Strategy RareAir’s Price Strategy A C B $12$15 $12$6 $8 $15$8 D

47. A C B $12$15 $12$6 $8 $15$8 D HighLow GreatestCombinedProfit RareAir’s Price Strategy Oligopoly Behavior A Game Theory Overview... High Low Uptown’s Price Strategy

48. A C B $12$15 $12$6 $8 $15$8 D HighLow IndependentActionsStimulateResponse RareAir’s Price Strategy Oligopoly Behavior A Game Theory Overview... High Low Uptown’s Price Strategy

49. A C B $12$15 $12$6 $8 $15$8 D HighLow IndependentActionsStimulateResponseGravitating to the Worst Case RareAir’s Price Strategy Oligopoly Behavior A Game Theory Overview... High Low Uptown’s Price Strategy

50. A C B $12$15 $12$6 $8 $15$8 D HighLow Collusion Invites a DifferentSolution RareAir’s Price Strategy Oligopoly Behavior A Game Theory Overview... High Low Uptown’s Price Strategy

51. A C B $12$15 $12$6 $8 $15$8 D HighLow Collusion Invites a DifferentSolution RareAir’s Price Strategy Oligopoly Behavior A Game Theory Overview... High Low Uptown’s Price Strategy

52. A C B $12$15 $12$6 $8 $15$8 D HighLow Collusion Invites a DifferentSolution But, the incentive to cheat is very real RareAir’s Price Strategy Oligopoly Behavior A Game Theory Overview... High Low Uptown’s Price Strategy

53. Company A High Ads $100,000 – 20,000 = $80,000 Low Ads $50,000 – 10,000 = $40,000 Company B Low Ads $50,000 – 10,000 = $40,000 High Ads $100,000 – 20,000 = $80,000 Company A Low Ads $75,000 – 10,000 = $65,000 High Ads $75,000 – 20,000 = $55,000 Company B Low Ads $75,000 – 10,000 = $65,000 High Ads $75,000 – 20,000 = $55,000 Ads Effect Sales (Q) and P x Q = TR so Ads effect Total Revenue! Low Cost Ads: 120 :30 second Ads/week for $10,000 High Cost Ads: 240 :30 second Ads/week for $20,000 Pay Off Matrix Oligopoly – Reasons for Collusion TR - TC = TP If either duopolist begins running High Ads, its competitor will counter with High Ads! Games Theory and Collusion’s answer is an agreement by “both”to keep advertising low in order to maximize profits! Would their be incentive to Cheat?

54. No Standard Model due to... Three Oligopoly Models

55. No Standard Model due to... Diversity Three Oligopoly Models

56. No Standard Model due to... DiversityInterdependence Three Oligopoly Models

57. No Standard Model due to... DiversityInterdependence 1 - Kinked Demand Curve Three Oligopoly Models

58. No Standard Model due to... DiversityInterdependence 1 - Kinked Demand Curve 2 - Collusive Pricing Three Oligopoly Models

59. No Standard Model due to... DiversityInterdependence 1 - Kinked Demand Curve 2 - Collusive Pricing 3 - Price Leadership Three Oligopoly Models

60. Kinked Demand: Noncollusive Oligopoly P Q D1D1D1D1 MR 1 Quantity The firm’s demand and marginal revenue curves when rivals follow pricing patterns.

61. P Q D1D1D1D1 MR 2 D2D2D2D2 MR 1 Quantity The firms demand and marginal revenue curves when rivals don’t follow pricing patterns. Kinked Demand: Noncollusive Oligopoly

62. P Q MR 2 D1D1D1D1 D2D2D2D2 MR 1 Quantity Rivals tend to follow a price cut Kinked Demand: Noncollusive Oligopoly

63. P Q MR 2 D1D1D1D1 D2D2D2D2 MR 1 Quantity Rivals tend to follow a price cut or ignore a price increase Kinked Demand: Noncollusive Oligopoly

64. P Q MR 2 D1D1D1D1 D2D2D2D2 MR 1 Quantity Effectively creating a kinked demand curve Kinked Demand: Noncollusive Oligopoly

65. P Q MR 2 D1D1D1D1 D2D2D2D2 MR 1 Quantity Effectively creating a kinked demand curve Kinked Demand: Noncollusive Oligopoly MC 2 MC 1

66. Cartels and Collusion

67. Oligopoly is conducive to collusion Cartels and Collusion

68. If a few firms face identical or highly similar demand and costs... Oligopoly is conducive to collusion Cartels and Collusion

69. If a few firms face identical or highly similar demand and costs... Oligopoly is conducive to collusion They will seek joint profit maximization... Cartels and Collusion

70. Q D Colluding Oligopolists Will Split the Monopoly Profits MC ATC MR P EconomicProfit Price Quantity MR = MC

71. Overt Collusion Cartels and Collusion

72. Overt Collusion OPEC Cartel Cartels and Collusion

73. Overt Collusion OPEC Cartel Covert Collusion Cartels and Collusion

74. Obstacles to Collusion

75. Demand & Cost Differences

76. Obstacles to Collusion Demand & Cost Differences Number of Firms

77. Obstacles to Collusion Demand & Cost Differences Number of Firms Cheating

78. Obstacles to Collusion Demand & Cost Differences Number of Firms CheatingRecession

79. Obstacles to Collusion Demand & Cost Differences Number of Firms CheatingRecession Potential Entry

80. Obstacles to Collusion Demand & Cost Differences Number of Firms CheatingRecession Potential Entry Legal Obstacles: Antitrust

81. Price Leadership

82. Leadership Tactics

83. Price Leadership Leadership Tactics Infrequent Changes

84. Price Leadership Leadership Tactics Infrequent Changes Communication

85. Price Leadership Leadership Tactics Infrequent Changes Communication Limit Pricing - sometimes smaller companies will wage price wars to knock the leader down.

86. Oligopoly & Advertising

87. Advertising Effects on Output & Average Costs Q Unit Costs Q ATCwithoutadvertising Copyright McGraw-Hill, Inc., 1999

88. Q Unit Costs Q ATCwithoutadvertising ATCwithadvertising Copyright McGraw-Hill, Inc., 1999 Advertising Effects on Output & Average Costs

89. Q Unit Costs Q ATCwithoutadvertising ATCwithadvertising Advertising Costs Copyright McGraw-Hill, Inc., 1999 Advertising Effects on Output & Average Costs

90. Oligopoly and Economic Efficiency Allocative Efficiency (Price = MC) Recall...

91. Oligopoly and Economic Efficiency Allocative Efficiency (Price = MC) Productive Efficiency (Price = Minimum ATC) Recall...

92. Oligopoly and Economic Efficiency Allocative Efficiency (Price = MC) Productive Efficiency (Price = Minimum ATC) Recall... Neither is likely in an oligopoly market structure

93. Features of an Oligopolistic Markets: 1. Few sellers (Less than seven), Duopoly - two main sellers + the fringe firms 2. Unique Products but similar products Coke v Pepsi, Chevy v Ford 3. Large barrier to entry or exit 4. A large measure of market power exists 5. Price is greater than MR, Separate DARP and MR curves 6. Non price competition and advertising exist Procter & Gamble: $3,277,000,000 in Ads 1999 7. Profits maximized at the Quantity and Price where MC = MR 8. Excess or Economic Profits possible in the Long Run (P>ATC) 9. Interdependence, Collusion, Spies, Pay off Matrix Price and Innovative Leaders exist, Gamesmanship “A Beautiful Mind” 10. Firms should shut down when P < AVC 11. Excess capacity exists in terms of potential output 12. Demand is relatively inelastic 13. Theory of the Kinked Demand Curve and Price Stickiness results from collusion and gamesmanship 14. Example market - Automobiles, Soda, Beer, Steel, Tobacco Products may be differentiated (Toyota v Ford) or homogeneous (Steel)

94. Q Unit Costs Q ATCwithoutadvertising ATCwithadvertising Advertising Costs Copyright McGraw-Hill, Inc., 1999 Advertising Effects on Output & Average Costs QuestionsandDiscussion...

95. u monopolistic competition u product differentiation u nonprice competition u excess capacity u oligopoly u homogeneous oligopoly u differentiated oligopoly u mutual interdependence u concentration ratio u interindustry competition u import competition u Herfindahl index u game theory model u collusion u kinked demand curve u price war u cartel u tacit understandings u price leadership

96. Next... Chapter 26 Technology,R&D,andEfficiency