Economics Micro

Front 1

Discuss how firms within an oligopolistic market compete

Back 1

-Define Oligopoly

- There is non-price competition because when a firm increases price, they lose competitiveness and revenue as PED becomes elastic and when lose price, other firms follow suit and PED becomes inelastic and so they also lose revenue (Kinked demand curve)

- However, in some cases firms in an oligopoly may compete by price cutting, even though it makes them less profit. This is because their most important long-term objective may be increasing market share. Inducing a price war could cause some firms to leave the market, which would increase the market share of that fir, reducing competition in the long run. Greater market share would allow them to benefit from economies of scale in long run (define) (diagram) However, shareholders often prefer profits and dividends to growth maximisation.

- firms may collude. Define. However, depends on whether there are high barriers to entry and small number of firms, because may get caught or may reach Nash Equilibrium

-In terms of non price discrimination, firms may try to establish stronger brand loyalty by increasing advertising and offering after sales service. Stronger brand loyalty will allow them to keep prices high.

Front 2

Definition of oligopoly

Back 2

When a few firms dominate market share. When 5 firms or fewer, have 50% or over market share.

Front 3

Kinked Demand curve

Back 3

Front 4

Definition of collusion

Back 4

When firms tactically or formally agree to set prices or output in order to limit competition and increase the welfare gains of the firms concerned.

Front 5

Definition of Economies of Scale

Back 5

A proportionate fall in costs as a result of increased production

Front 6

Economies of Scale diagram

Back 6

Front 7

Discuss whether monopoly is always an undesirable form of market structure

Back 7

Define monopoly

(1) Produces less output at higher prices. monopoly maximises profit where MR=MC so produces Q1. Here it charges P1. In a competitive market, firms would produce Q2 - the allocatively efficient amount (define) which is greater than Q1. It produces this at P2 which is less.

COUNTER:

- may benefit from economies of scale (define), if there is high fixed costs. This means costs would be cut and it would be better if there is just one firm. H/E. firms too large may face diseconomies of scale because harder to coordinate and motivate workers. DRAW DIAGRAM

(2) Monopolies exploit customer and suppliers. Exploit customer by reducing consumer surplus, creating a deadweight loss. Consumer is denied chance to purchase certain output at certain prices. Also, exploit supplier by making them supply at lower price as they have no other alternatives to sell to. I.E. tesco to farms. reduces farmers real income.

COUNTER: Schump Eter;may lower average cost through using supernormal profit to invest in research and development. Dynamic efficiency i.e. google is still efficient. H/E: likely to be more x-inefficient because do not face as much competitive pressure

(3) Do not achieve Productive efficiency and allocative efficiency in long run and short run. Define Productive efficiency. Define allocative efficiency. Draw perfect competition diagram short term and long run to demonstrate that this happens in competition

COUNTER:

When there is large indivisble capital i.e. natural monopoly, may be wasteful to duplicate capital

Front 8

monopoly vs perfect competition graph

Back 8

LEARN TOMORROW MORNING

Front 9

perfect competition graph

Back 9

Front 10

Allocative efficiency definitiion

Back 10

Is when scarce resources are used in the best possible way to maximise welfare in economy. Price = Marginal cost

Socially efficient quantity of good is produced

Front 11

Productive efficiency definition

Back 11

Is when production takes place at the minimum average cost. Firm produces good at minimum unit cost. MC = AC

Front 12

Explain how interdependence and uncertainty could affect the behaviour of oligopolistic markets

Back 12

Define Oligopoly interdependence

Define interdependence

(1) Could stop firms from changing price, leading to price stability (Kinked diagram) Sticky prices, as do not want to enter price war which would decrease industry profits

(2) Could lead to non-price competition

(3) Could cause firms to collude - or break collusion (Game theory)

Front 13

Define interdependence

Back 13

The actions of one firm will impact others in the same industry i.e. lowers price so others lower price as well

Front 14

Evaluate the view that only producers and not consumers, benefit when oligopolistic firms collude to try and reduce the uncertainty they experience

Back 14

Define oligopolistic

Define collusion

When they collude they effectively become monopolies

(1) Make supernormal profit - consumers lose consumer surplus as made to pay higher price for lower output (diagram). Don't benefit from economies of scale like monopolies. COUNTER: may allow firms to survive which grants consumers with greater consumer choice.

(2) Producers can become x-inefficient - COUNTER: Edward Schump dynamic efficiency

(3) HELP

Front 15

Explain why contestable markets generally function more efficiently than non-contestable markets

Back 15

- Increases allocative efficiency because firms are likely to keep prices low to discourage newer firms from entering - who will be attracted by supernormal profit. Keeps price closer to marginal cost

-Increases X-efficiency because firms will reduce average cost and remain efficient so that they do not become unprofitable because of competition.

-Increases greater efficiencies of scale through use of economies of scale (draw diagram). Contestable markets do not have to be like perfectly competitive ones where there are hundreds of different firms.

Front 16

Explain various barriers to entry to a market and how these barriers might affect market structure

Back 16

Define barriers to entry

(1) Economies of scale - define. If an industry has high fixed costs, the new firms will face higher average costs than the incumbent firm. If a firm enters the market and sells Q1 then it cannot compete with firms already producing Q2 at ... They are common industries that require large investment i.e. car and plane

(2) Advertising costs - these pose huge sunk costs (define), which a new firm may not have the capital to finance. Also, despite advertising, it requires a large amount of time to develop same branding. I.e pepsi and cocacola

(3) Predatory Pricing - an incumbent firm may try and kill of new competition by lowering its price below average cost. It will be able to afford this because of previous reserves of supernormal profit - something a new firm will not have. Similar with limit pricing - prevents new firms from entering

(4) Mergers and takeovers - increase the concentration ratio within a market.

(5) ownership of key outlets or factories

Front 17

Define contestable

Back 17

Where there are no barriers to entry or exit

Front 18

Define X-efficiency

Back 18

When firm has incentive to control costs by keeping average cost down

Front 19

Define Dynamic efficiency

Back 19

When productive efficiency of a firm is improved through the implementation of new production processes which reduces its cost curves.

Front 20

In the past, utility industries such as the postal service, electricity and gas, have been heavily protected by entry barriers. Evaluate the possible effects on efficiency and resource allocation of removing these barriers

Back 20

Entry barriers (define). Removal of them leads to greater competition in the market

(1) Leads to market becoming more allocatively efficient. Define.

This is because more competition, reduces prices in order for firms to gain more market share. This lowers the prices closer to marginal cost and so enables greater allocative efficiency.

COUNTER; usually in these industries, fixed costs are very high and so it is unlikely that there will be perfect allocative efficiency

(2) Leads to greater dynamic efficiency - the threat of entry may encourage innovation to make their product more unique

COUNTER: because of high sunk costs, new competitors may not enter market which has danger of creating a private monopoly, which charges higher prices. H/E: regulation

(3)Leads to less X-inefficiency
COUNTER: these industries had high supernormal profit used for dynamic efficiency in first place. HE: likely that this just went to share holders instead.

Front 21

Define Entry barriers

Back 21

Factors that prevent new firms from entering the market or firms from leaving the market quickly.

Front 22

Explain the meaning of price discrimination and the conditions necessary for price discrimination

Back 22

Define Price discrimination

Third degree price disc means charging different prices to different groups i.e. old people

Second degree price disc means charging different prices for different quantity bought

First degree price dic means charging the maximum price that customers are willing to pay: ebay

DRAW DIAGRAM

First condition is that there must be monoply power to some extent - so there is a downward sloping demand curve. The firm must be a price maker

Second condition is that there are two or more seperate markets with different P.E.D

Third condition is that there is no seepage; goods that are bought for the lower price cannot be resold by consumers at a higher price.

Front 23

Define Price discrimination

Back 23

Involves selling the same good to different groups at different prices.

Front 24

Evaluate the view that because price discrimination enables firms to make more profit, firms, but not consumers, benefit from price discrimination

Back 24

Define price discrimination

Price discrimination makes profit for businesses

(1) It can remove all consumer surplus from consumers and some customers will lose out and pay a price higher than marginal cost (allocative efficiency) H/E; theoretical, not true

COUNTER: some customers will benefit - may consumer higher proportion for more vulnerabl in sociert enables a fairer distribution of resources in society - H/E not possible to use on grounds of income

(2) Unfair to make profit at expense of customer
H/E: profit could be used to improve dynamic efficiency, enabling consumers to benefit from better quality products and services in the longrun

(3) Enables firms to spread demand more evenly over a season , reducing overcrowding in peak times

(2) It can be said it

Front 25

Define Premium pricing

Back 25

When more qualtiy products are priced at a level (compared to the economy version) much higher than the Marginal Cost of production

Front 26

Define Natural Monopoly

Back 26

Most efficient number of firms is one. I.e high fixed costs in delivering tap water so deregulation would not encourafe a new firm to enter because a new firm would never be able to compete an set up a network of pipes. Would create a private monopoly

Front 27

Evaluate the different ways in which governments could make markets more competitive

Back 27

(1) Deregulation - removing any legal barriers to entry

COUNTER: tend to be natural monopolies

(2) Make Office of Fair Trading investigate any potential anti-competitve prsctises i.e. collusion o predatory pricing

COUNTER: OFT already do this and difficult to spot practises

(3) Gov subsidies for new firms to enter

COUNTER: may have to raise tax

(4) Gov could break up monopolies into smaller firms. I.E. US gov considered breaking up Microsoft bc too much market power

COUNTER: smaller firms cant benefit from economies of scale

Front 28

Define Total Revenue

Back 28

Price x Quantity

Front 29

Define Average Revenue

Back 29

Total Revenue / Quantity

Front 30

Define Marginal Revenue

Back 30

Change in total revenue earned from selling one extra unit of output.

Change in total revenue / change in quantity

Front 31

PERFECT COMPETITION TOTAL REVENUE AND MARGINAL REVENUE CURVE - price is constant

Back 31

sheet

Front 32

Imperfect competition total revenue and marginal revenue curve - price is not constant graphs

Back 32

sheet

Front 33

Law of diminishing returns

Back 33

States that in the short run when a variable factor is added to a stock of fixed factors, marginal product will initally rise but then fall because in the short run, there will not be enough fixed factors to compliment the variable ones.

In the long run, all factors of production are variable.

Makes assumption that the variable factor is homogenous. May not work as different workers have different levels of productivity

Law makes the assumption that

Front 34

Marginal product

Back 34

The change in total product as variable factor is increased by one unit. It is the gradient of total product.

Front 35

Law of diminishing returns graph

Back 35

sheet

Front 36

Total Costs

Back 36

Total costs = total variable costs + total fixed costs

note TVC vary with output so when TP = 0 TVC = 0

In short run TFC cannot rise as all fixed factors cannot rise or fall

Front 37

Average Fixed Costs

Back 37

TFC / Q

Front 38

Average Variable Costs

Back 38

TVC/Q

Front 39

AC (or ATC) =

Back 39

AC = TC/Q or AFC+AVC

Front 40

MARGINAL COST

Back 40

MC = CHANGE IN TC / CHANGE IN Q

MC = CHANGE IN TVC / CHANGE IN Q

Front 41

AC GRAPH

Back 41

Front 42

Features of perfect competition

Back 42

(1) Many buyers and sellers

(2) Firms are price takers

(3) Goods are homogenous - and undifferentiated

(4) There is perfect knowledge

(5) No barriers to entry in the long run

Front 43

Normal Profit

Back 43

Normal Profit is the minimum award necessary to persuade an entrepeneur to stay in a market.

It is determined by the enrepreneur's opportunity cost - i.e. how much he could earn in next best occupation

Front 44

Monopoly diagram

Back 44

Front 45

Perfect competition shutdown point

Back 45

In short run If making loss will keep running if:

AR is greater than AVC

because it will be able to make a contribution to TFC

Indifferent if AR = AVC

In long run will shut down if TR is less than TC

Indifferent if TR=TC

Front 46

Perfect competition shutdown point diagram

Back 46

Front 47

Monopoly shutdown point help

Back 47

help

Front 48

Monopolistic competition

Back 48

Is a market that is made up of a large number of small firms that have characteristics of both perfect competition and monopoly

- Many buyers and sellers

- Sell differentiated goods that cannot be perfect substitutes for one another

- No long run barriers to entry

- Imperfect market knowledge

- independence - each firm has small share of market

In shortrun:

-AR and MR more elastic than in monopoly because more substitutes are available

-can make supernormal profit

longrun:

- more firms enter industry so supernormal profit gets competed away. each firm loses market share so demand (AR) shifts left and becomes tangential with AC curve

Front 49

game theory TABLE

Back 49

Front 50

Monopolistic competition diagram

Back 50

Front 51

PROFITS ARE MAXIMISED AT OUTPUT WHERE

Back 51

MC = MR draw diagram

Front 52

REVENUE IS MAXIMISED AT OUTPUT WHERE

Back 52

MR = 0 draw diagram

Front 53

SALES ARE MAXIMISED AT THE OUTPUT WHERE

Back 53

AC=AR (breakeven) draw diagram