1. # McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved. Monopolistic Competition and Oligopoly 9

2. 9-2 Monopolistic Competition Relatively large number of sellers Differentiated products Easy entry and exit Advertising LO1

3. 9-3 Price and Output in Monopolistic Competition Demand is highly elastic Short-run profit or loss Produce where MR = MC Long-run normal profit Entry and exit Inefficient Product variety LO2

4. 9-4 The Short Run: Profit or Loss LO2 Quantity Price and Costs MR = MC MC MR D1D1 ATC Economic Profit Q1Q1 A1A1 P1P1 0

5. 9-5 The Short Run: Profit or Loss LO2 Quantity Price and Costs MC MR D2D2 ATC Loss Q2Q2 A2A2 P2P2 0 MR = MC

6. 9-6 The Long Run: Only a Normal Profit LO2 Quantity Price and Costs MC MR D3D3 ATC Q3Q3 P 3 = A 3 0 MR = MC

7. 9-7 Monopolistic Competition: Efficiency Inefficient Productive inefficiency P > ATC Allocative inefficiency P > MC LO2

8. 9-8 Monopolistic Competition: Efficiency P = MC = min ATC for pure competition (recall) LO2 Quantity Price and Costs MR = MC MC MR D3D3 ATC Q3Q3 0 P 3 = A 3 P4P4 Q4Q4 Price is lower Excess capacity at minimum ATC Monopolistic competition is not efficient

9. 9-9 Product Variety The firm constantly manages price, product, and advertising Better product differentiation Better advertising The consumer benefits by greater array of choices and better products Types and styles Brands and quality LO2

10. 9-10 Oligopoly A few large producers Homogeneous or differentiated products Limited control over price Mutual interdependence Strategic behavior Entry barriers Mergers LO3

11. 9-11 Game Theory Overview Oligopolies display strategic pricing behavior Mutual interdependence Collusion Incentive to cheat Prisoner’s dilemma LO4

12. 9-12 Game Theory Overview LO4 RareAir’s Price Strategy Uptown’s Price Strategy AB CD $12 $15 $6 $8 $6 $15 High Low 2 competitors 2 price strategies Each strategy has a payoff matrix Greatest combined profit Independent actions stimulate a response

13. 9-13 Game Theory Overview LO4 RareAir’s Price Strategy Uptown’s Price Strategy AB CD $12 $15 $6 $8 $6 $15 High Low Independently lowered prices in expectation of greater profit leads to worst combined outcome Eventually low outcomes make firms return to higher prices

14. 9-14 Kinked-Demand Theory Noncollusive oligopoly Uncertainty about rivals’ reactions Rivals match any price change Rivals ignore any price change Assume combined strategy Match price reductions Ignore price increases LO5

15. 9-15 Kinked-Demand Curve LO5 MR 2 D2D2 D1D1 MR 1 Q0Q0 MC 1 MC 2 P0P0 e f g

16. 9-16 Kinked-Demand Curve Criticisms Explains inflexibility, not price Prices are not that rigid Price wars LO6

17. 9-17 Price Leadership Model Price leadership Dominant firm initiates price changes Other firms follow the leader Use limit pricing to block entry of new firms Possible price war LO6

18. 9-18 Collusion Cartel Overt collusion Covert collusion Joint-profit maximization LO6

19. 9-19 Collusion LO6 Price and Costs Quantity D MR=MC ATC MC MR P0P0 A0A0 Q0Q0 Economic profit

20. 9-20 Overt Collusion Cartels: a group of firms or nations that collude Formally agree to the price Set output levels for members Collusion is illegal in the United States OPEC LO6

21. 9-21 Obstacles to Collusion Demand and cost differences Number of firms Cheating Recession New entrants Legal obstacles LO6

22. 9-22 Oligopoly and Advertising Prevalent to compete with product development and advertising Less easily duplicated than a price change Financially able to advertise LO7

23. 9-23 Positive Effects of Advertising Low-cost way of providing information to consumers Enhances competition Speeds up technological progress Can help firms obtain economies of scale LO7

24. 9-24 Oligopoly and Advertising LO7 The Largest U.S. Advertisers, 2010 Company Advertising Spending Millions of $ Procter & Gamble$3124 General Motors 2131 AT&T 2093 Verizon 1823 News Corp. 1368 Pfizer 1229 Time Warner 1194 Johnson & Johnson 1140 Ford Motor 1132 L’Oreal 1112 Source: Advertising Age, www.adage.comwww.adage.com

25. 9-25 Negative Effects of Advertising Can be manipulative Contains misleading claims that confuse consumers Consumers pay high prices for a good while forgoing a better, lower- priced, unadvertised version of the product LO7

26. 9-26 Global Snapshot LO7 The World’s Top 10 Brands Coca-Cola IBM Microsoft Google General Electric McDonald’s Intel Apple Disney Hewlett-Packard

27. 9-27 Oligopoly and Efficiency Oligopolies are inefficient Productively inefficient P > min ATC Allocatively inefficient P > MC Qualifications Increased foreign competition Limit pricing Technological advance LO7

28. 9-28 Oligopoly in the Beer Industry The beer industry is now an oligopoly Changes in demand Change in tastes Consumed at home and mass produced Changes in supply Technological advance Economies of scale LO2