1. Chapter 13 Monopolistic Competition and Oligopoly Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

2. 13-2 Monopolistic Competition Monopolistic competition Relatively large number of sellers Product differentiation Easy entry and exit Nonprice competition like advertising LO1

3. 13-3 Monopolistically Competitive Industries Industry concentration Measured by 4-firm concentration ratio Percentage of sales by 4 largest firms Herfindahl index Sum of squared market shares 4-firm CR = output of four largest firms total output in the industry HI = (%S 1 ) 2 + (%S 2 ) 2 + (%S 3 ) 2 + …. + (%S n ) 2 LO1

4. 13-4 Low Concentration Industries (1) Industry (2) 4-Firm Concentration Ratio (3) Herfindahl Index (1) Industry (2) 4-Firm Concentration Ratio (3) Herfindahl Index Textile machinery30360Wood trusses15102 Women’s dresses28328Metal stamping1488 Textile bags28318 Metal windows and door13109 Plastic bags27299Wood pallets1151 Ready-mix concrete23313Sheet metal work730 Jewelry23230Signs728 Asphalt paving22188Stone products723 Plastic pipe21187Quick printing48 Sawmills1598Retail bakeries47 Curtains and draperies1485Bolts, nuts, and rivets46

5. 13-5 Price and Output in Monopolistic Competition Demand is highly elastic Short run profit or loss Produce where MR = MC Long run only a normal profit Entry and exit LO2

6. 13-6 The Short Run: Profit or Loss Quantity Price and costs MR = MC MC MR D1D1 ATC Economic profit Q1Q1 A1A1 P1P1 0 LO2

7. 13-7 The Short Run: Profit or Loss Quantity Price and costs MC MR D2D2 ATC Loss Q2Q2 A2A2 P2P2 0 MR = MC LO2

8. 13-8 The Long Run: Only a Normal Profit Quantity Price and costs MC MR D3D3 ATC Q3Q3 P 3 = A 3 0 MR = MC LO2

9. 13-9 Monopolistic Competition and Efficiency Monopolistic competition inefficient Productive inefficiency because P > min ATC Allocative inefficiency because P > MC Excess capacity LO3

10. 13-10 Monopolistic Competition and Efficiency Quantity Price and costs MC MR D3D3 ATC Q3Q3 0 P 3 = A 3 MR = MC P4P4 Q4Q4 Price is lower Excess capacity at minimum ATC LO3

11. 13-11 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 LO4

12. 13-12 Oligopoly A few large producers Homogeneous oligopoly Differentiated oligopoly Limited control over price Entry barriers Mergers LO5

13. 13-13 Oligopolistic Industries Four-firm concentration ratio 40% or more to be an oligopoly Shortcomings Localized markets Interindustry competition Import competition Dominant firms LO5

14. 13-14 High Concentration Industries (1) Industry (2) 4-Firm Concentration Ratio (3) Herfindahl Index (1) Industry (2) 4-Firm Concentration Ratio (3) Herfindahl Index Primary copper99NDPetrochemicals802,535 Cane sugar refining95NDBreakfast cereals802,426 Cigarettes98NDSmall-arms ammunition792,447 Household laundry equipment98NDPrimary aluminum772,250 Household refrigerators and freezers92NDMen’s slacks and jeans762,015 Beer90NDElectric light bulbs752,258 Glass containers872,507Tires731,540 Electronic computers87ND Household vacuum cleaners711,519 Phosphate fertilizers83ND Alcohol distilleries70 1,915 Turbines and generators68 1,937 Aircraft81NDMotor vehicles681,744

15. 13-15 Oligopoly Behavior Oligopolies display strategic behavior Mutual interdependence Collusion Incentive to cheat Game theory Prisoner’s dilemma LO6

16. 13-16 Game Theory Overview 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 LO6

17. 13-17 Game Theory Overview 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. LO6

18. 13-18 Three Oligopoly Models Kinked-demand curve Collusive pricing Price leadership Reasons for 3 models Diversity of oligopolies Complications of interdependence LO7

19. 13-19 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 LO7

20. 13-20 Kinked-Demand Curve Price Price and costs Quantity 0 0 P0P0 MR 2 D2D2 D1D1 MR 1 e f g Rivals ignore price increase Rivals match price decrease Q0Q0 MR 2 D2D2 D1D1 MR 1 Q0Q0 MC 1 MC 2 P0P0 e f g LO7

21. 13-21 Kinked-Demand Curve Criticisms Explains inflexibility, not price Prices are not that rigid Price war LO7

22. 13-22 Cartels and Other Collusion Price and costs Quantity D MR=MC ATC MC MR P0P0 A0A0 Q0Q0 Economic profit LO7

23. 13-23 Overt Collusion A cartel is a group of firms or nations that collude Formally agreeing to the price Sets output levels for members Collusion is illegal in the United States OPEC LO7

24. 13-24 Global Perspective LO7

25. 13-25 Obstacles to Collusion Demand and cost differences Number of firms Cheating Recession New entrants Legal obstacles LO7

26. 13-26 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 LO7

27. 13-27 Oligopoly and Advertising Oligopolies commonly compete though product development and advertising Less easily duplicated than a price change Financially able to advertise LO8

28. 13-28 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 LO8

29. 13-29 Oligopoly and Advertising The Largest U.S. Advertisers, 2011 Company Advertising Spending Millions of $ Proctor & Gamble$4,971.5 General Motors3,055.7 Verizon2,523.0 Comcast2,465.4 AT&T2,359.0 JP Morgan Chase2,351.8 Ford Motor2,141.3 American Express2,125.3 L’Oréal2,124.6 Walt Disney2,112.2 LO8

30. 13-30 Negative Effects of Advertising Can be manipulative Contain misleading claims that confuse consumers Consumers may pay high prices for a good while forgoing a better, lower priced, unadvertised version of the product LO8

31. 13-31 Global Perspective LO8

32. 13-32 Oligopoly and Efficiency Oligopolies are inefficient Productively inefficient because P > min ATC Allocatively inefficient because P > MC Qualifications Increased foreign competition Limit pricing Technological advance LO9

33. 13-33 Internet Oligopolies The Internet became accessible to the average person in the mid 1990’s Today it is dominated by a few very large firms Google, Facebook, Amazon, Microsoft, Apple Not satisfied with just revenues generated in their respective sectors Compete for advertising $s Compete with their own electronic devices