2.11d further game theory

Question 1

What characterises a natural monopolist?

Answer 1

Characterised by huge fixed costs.
–> Enormous potential for EOS

Question 2

Why is competition undesireable with natural monopolists?

Answer 2

Competition is undesirable as it creates a wasteful duplication of resources.
The first mover has the EOS advantage
–> Any firm trying to enter won’t have the same EOS advantage and will eventually be priced out of the market
–> All infrastructure will remain idle –> waste –> allocative inefficency

Question 3

What is the concentration ratio?

Answer 3

Combined market share of the oligopolies = market concentration –> we use the n-concentration rate
–> Top N firm in the industry
–> The higher the ratio the greater the market power from the n firms

We use CRx = concentration ratio
–> x = number of firms

eg. USA Market size for sportswear is $119bn, top 4 firms have $75bn of market

So calculation: CR4 = (75/119) x 100 = 63%

Question 4

What are some flaws of concentration ratios?

Answer 4

HOWEVER,concentrations rates do not:
- Reflect competition from abroad
- Provide information of the importance of firms in the global market
- Distinguish between the size of the firms (eg. CR4 takes top 4 firms into account, but does not show them individually)
–> A better measurement would be HHI (Herfindahl - Hirschman index)

Question 5

What is “collusion”?

Answer 5

Collusion:
- Agreement among firms to limit competition between them, generally by price fixing which leads to decrease the uncertainty in the market
–> Leads to increase in profits for all firms in the market
–> This is called overt or formal collusion

Collusion could be:
- price fixing
- limiting output
- setting up barriers to entry
- dividing the market
- setting restrictions

Question 6

What is a necessary requirement for “collusion”?

Answer 6

For collusion to work there must be high barriers to entry
For most countries formal collusion is illegal but it can be authorised in same countries

Question 7

Why would firms want to “collude”?

Answer 7

• Profit max
• EofS
• Decrease in competition
• Avoid a price war

Question 8

What are some advantages of a firm having significant market power?

Answer 8

• EOS (Bulk buying, Financial, Managerial, Technical)
  Abnormal profits enable:
• diversification
• R&D and innovation
• Market share growth

Question 9

What are some disadvantags of a firm having significant market power?

Answer 9

• DEOS (Diseconomies of scale)
  –> Too many managers, communication takes too long…
• Government may break up the firm
• Firms can exploit their price setting ability –> loss of consumer surplus
• Lack of consumer choice
• Decrease in competition –> lack of innovation –> inefficiency

Question 10

What can a government do if there is a significant abuse of market power?

Answer 10

1. Break the monopoly
   - Regulations and legislation
   –> Prevention of mergers and acquisitions
   eg. 2019 Uk supermarkets groups ASDA and Sainsbury’s merger was not allowed to go forwards. Would have been detrimental to consumers.
   - Promoting competition
   –> Remove bureaucracy, tax breaks,
   - Forcing pricing strategies
   –> Firms having to sell at P = MC (where there is allocative efficiency)
   - Sale of existing assets
2. Government ownership
   eg. natural monopolies
   nationalisation eg. British Railway
3. Fines
   To penalise firms caught in practising anti-competitive measures
   –> could also be accompanied by jail imprisonment