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34 Cards in this Set

  • Front
  • Back

Market-Segment Price Discrimination

A firm charges different prices to different groups for the same product




Group with inelastic demand: larger markup


Group with elastic demand: smaller markup

Perfect Price Discrimination

A firm charges different prices to different individuals for the same product or high price with different discounts to different buyers




Maximizes gains from trade with all gains going to seller

Conditions for Price Discrimination

Market Power


Identifiable demand differences


Controllable resale of product

Irrationality


Suspending logic to embrace false but comforting beliefs




MB: happiness from false but comforting beliefs


MC: losses from false but comforting beliefs

Rational Irrationality


It is rational to hold false but comforting beliefs


Irrationality =/= stupidity


More information worsens the problem




Tying


Price Discrimination in which a low-profit "base good" must be used with a high price "variable good"




Increases profits when willingness to pay correlates with quantity of variable good used.

Bundling

Price discrimination in which several products can be purchased as a bundle only




When buyers will pay similar amounts for each component, both are equally profitable

Cartel


A group of firms can cooperate to create monopoly outcomes




"collusion"


Why are cartels unstable?


Government prosecution


Entry of new firms


Cheating


Incentive to Cheat


Each firm is self-interested, so each firm cheats




-->




Self-interest leads both firms to an inferior outcome


Sources of Market Power


Ownership of an important input


Government barriers


Economies of scale


Innovation


Market Power

Ability to raise prices above marginal cost without firms entering the market




Firm with market power is constrained by its demand curve


Solutions to Prisoner's Dilemma


Communication: Coordinate behavior for optimal outcome




Repeated Games: prisoner will cheat less when they're punished in subsequent games




Government Restraints: use government to force the game to optimal outcome




Self-Restraints: Individuals impose costs on themselves to force optimal outcome


Prisoner's Dilemma


Self-Interrest can lead to inferior group outcomes




Mutually beneficial cooperation can be difficult

Positive Sum Activity

When innovation creates rents, competition for rents is a positive sum activity

Rents

Profits

Invisible Hand Property


Self interest divides production to minimize total costs




Losses cause resources to leave value destroying industries




Profits cause resources to enter value creating industries




Creative Destruction


Self interest encourages firms to innovate


Eg. Netflix over Blockbuster, PC drop after iPad

Diffusion

Self interest encourages the spread of valuable ideas

Competitive Markets


Large number of buyers and sellers




Identical outputs




Free entry and exits

Marginal Revenue


Revenue from selling one or more units




P=MR





MR > MC

Firm will produce more
MR < MC

Firm will produce less
MR = MC

Firm has maximized profits

MC < AC


Average cost falls
MC > AC


Average cost rises


P > AC


Firm makes profit


Firms enter the market


P < AC


Firm makes loss


Firms exit the market

P = AC

Firm breaks even

Game Theory

Understanding behavior when the outcome depends on the choice of all involved persons

Negative Sum Activity

When government barriers create rents, competition for rents is a negative-sum activity




"rent seeking"

Rational Ignorance


Rational to be Imperfectly Informed


Ignorance =/= Stupidity




More information alleviates the problem




"miracle of aggregation"




MC: effort to acquire and understand information




MB: fewer costly errors due to false beliefs

Rationally Ignorant Beliefs


Random error


Weakly-held beliefs


Receptive to evidence

Implications of Rational Ignorance


Encourages policies with concentrated benefits and diffuse costs




Favor interest groups at the expense of the general population