3.4- market structures Flashcards
What is allocative efficiency?
production is alligned with consumer preferences. Resources are distributed to the goods and services consumers want.
When does allocative efficiency occur?
P=MC
In what market does allocative efficiency occur?
Free market
Where is productive efficiency shown on the average cost curve?
At the lowest point
When does productive efficiency occur?
When MC=AC
What are allocative and productive efficiency forms of?
static efficiency
What is dynamic efficiency?
When resources are allocated efficiently over time. The range of innovation is at the optimum level, which leads to falling long-run average costs.
When is a market dynamically efficient?
If consumer needs and wants are met as time goes on.
Evaluation point for dynamic efficiency?
The long lag time between making an investment and having falling average costs.
When is a firm x-inefficient?
When it is producing within the AC curve
Why might x-inefficency occur?
- organisational slack
-poor management
due to a lack of competition
What are costs like in an x- inefficient market?
A lot higher than if there was competition
What market does allocative efficiency occur in?
Perfectly competitive market
What market does productive efficiency occur in?
Perfectly competitive market
What market does dynamic efficiency occur in?
Monopolistic competition.
What market is there x- inefficiency?
oligopoly and monopoly, monopolistic competition.
What are the characteristics of perfect competition?
-many buyers and sellers.
-sellers are price takers.
-no barriers to entry and exit.
-perfect knowledge.
-homogenous goods.
-factors of production are perfectly mobile
What is a homogenous good?
When they are perfect substitutes and the products cannot be distinguished from different suppliers
How is price determined in a perfectly competitive market?
By the interaction of demand and supply
What profit is made in the long run in a perf competitive market?
only normal profits are made
What profit is made in the short run in a perf competitive market?
supernormal profit, normal profit or loss
Short run equilibrium diagram perf competitive market (supernormal profit)
draw on paper
Long run equilibrium diagram perf competitive market (normal profit only)
draw on paper
What are the advantages of a perfectly competitive market?
-In the long run, there is a lower price. P=MC, so there is allocative efficiency.
-Firms produce at bottom of AC curve- productive efficiency.
-The supernormal profits produced in the short run might increase dynamic efficiency through investment.
What are the disadvantages of a perfectly competitive market?
-In the long run, dynamic efficiency might be limited due to lack of supernormal profits.
-firms are small, no economies of scale.
-The model rarely applies in real life, no market is perfect.
What is monopolistic competition?
a type of imperfect competition, that there are many producers against each other however they are selling products that are non-homogenous. Hence, are not perfect substitues
What are characteristics of monopolistically competitive markets?
- firms sell non homogenous products due to branding.
-Large number of buyers and sellers.
-Each seller has the same degree of market powers as other sellers, but power is weak.
-no barriers to entry/exit.
-buyers and sellers have imperfect competition.
Example of monopolistic competition
Hair dressers, coffee shop
In the short run, what point do firms profit maximise?
MC=MR
Diagram: short run profit maximising equilibrium- monopolistic competition
Diagram: long-run profit maximising equilibrium- monopolistic competition
What are the advantages of monopolistically competitive markets?
-Firms are allocatively inefficient in the short run and long run (P>MC)
-Consumers get a wide range of choice.
-Supernormal profits in the short run might increase dynamic effiency through investment.
What are disadvantages of monopolistically competitive markets?
- In the long run, dynamic efficiency might be limited due to the lack of supernormal profits.
-Firms have x-inefficiency, since they have little incentive to minimise costs.
What are the characteristics of an oligopoly?
-high barriers to entry/exit (makes the market less competitive)
-High concentration ratio (only a few firms supply the majority of the market)
-interdependence of firms
-product differentiation
What is the n-firm concentration ratio?
The combined market share of the top few firms in a market.
If the 4 firm concentration ratio was calculated, the market share of the 4 largest firms would be added together (must be in percentage)
What does the higher the concentration ratio mean?
The less competitive the market. Fewer firms are supplying the bulk of the market.
When does collusive behaviors occur?
When firms agree to work on something together. They might choose to set a price or fix quantity of output.
Reasons for collusive behaviour?
-Minimises competitive pressure.
-Higher prices and greater profits for firms. However, reduces consumer surplus.
Reasons for non collusive behaviour?
-It can be illegal and involves risks.
-A strong firm will not want to if they can increase market share or charge higher prices than competitors.
When does collusion work best?
-When there are a few firms who trust each other.
-They face similar costs.
-high barriers to entry.
-produce similar products.
What are the two types of collusion?
overt or tacit
What is overt collusion?
When a formal agreement is made between firms. It is illegal.
-could be price fixing.
What is tacit collusion?
Unpsoken actions between oligopolistic firms that are likely to minimise a competitive response
What are the benefits of collusion?
-Excess profits could be used for investment, which might improve efficiency in the long run.
-By increasing their size firms can exploit economies of scale, leading to lower prices.
What are the costs of collusion?
-There is a loss of consumer welfare.
-The absence of competition means efficiency falls.
-Reinforces the monopoly power of existing firms.
What is a cartel?
A cartel is a group of two or more firms which have agreed to control prices, limit output, or prevent the entrance of new firms into the market.
What is a famous example of a cartel?
OPEC, they controlled over 70% of the supply of oil in the world.
What is price leadership?
When one firm changes their prices, and other firms follow.
Other firms are often forced into changing their prices too, otherwise they risk losing market share.
How is game theory related to oligopolis?
Related to the interdependence between the firms.
What does game theory predict?
The outcome of a decision made by one firm, when it has incomplete information about the other firm.
What is the dominant strategy?
The option which is best, regardless of what the other person chooses. - both to confess
What is nash equilibrium?
The optimal strategy for all players, whilst taking into account what opponents have chosen.
What are the three types of price competition?
- price wars.
-predatory pricing
-limit pricing
What is a price war?
Firms constantly cutting their prices below that of its competitors. The competitors then lower their price to match and so on.
What is predatory pricing?
It is illegal. Firms setting low prices to drive out firms already in the industry. In the short run, they make losses.
What is limit pricing?
not neccesarily illegal. Low prices discourage the entry of other firms. Ensures the price of a good is below that which a new firm entering the market would be able to sustain.
What are some types of non-price competition?
-advertising and banking.
-improve quality of service.
-increase brand loyalty.
What is a monopoly?
A specific person or enterprise is the only supplier of one thing. Uncompetitive market
What are the characteristics of a monopoly?
-High barriers to entry.
-price maker.
-price discrimination.
-profit maximisation.
-sole seller in the market.
-One dominating firm with 25%
When do monopolists earn supernormal profits?
In BOTH the short run and the long run. At the point MC=MR
Profit maximising equilibrium- monopoly diagram
What is third degree price discrimination?
When the monopolist decides to charge different groups of consumers different prices, for the same good or service.
How does the market split up and allow different prices to be charged?
Due to demand curves of different elasticities within each group of consumers.
Will firms charge higher or lower prices if a group has inelastic demand?
Higher.
Diagram showing different price elasticities in the market.
What is an example of third degree price discrimination?
The higher price at peak times on trains.
adults, students and children pay different prices to see the same film at a cinema.
What are the neccesary conditions of price discrimination?
-firms must have sufficient monopolypower.
-must be able to identify people with different elasticities of demand.
What are the benefits of price discrimination?
-firms benefit as they increase supernormal profits.
-Those in the elastic market pay a lower price.
-Good for families as children usually pay less.
What are the costs of price discrimination?
-loss of consumer surplus.
-strengthens monopoly power of firms, resulting in higher prices for consumers.
-Could cost the firm to divide the market.
What are the benefits of a monopoly?
-monopolies can earn significant supernormal profits- invest in more research and development.
-Natural monopoly- more efficient for only one firm to provide good or service. only one water supplier.
-can generate export revenue.
-monopolies are large, exploit economies of scale.
What are the costs of a monopoly?
-Higher prices and profits may result in a misallocation of resources.
-can charge consumer higher prices.
-loss of consumer surplus and a gain of producer surplus.
-consumers do not get as much choice in a monopoly as they do in a competitive.
What is a natural monopoly?
When there are high fixed costs. For example, water and gas pipes.
The costs of infrastructure are a form of sunk costs, makes barriers to entry and exit.
What are the characteristics of a monopsony?
-A single buyer in the market. For example, network rail.
-supermarkets have monopsony power when buying products from farmers.
-Able to negotiate lower prices, because their suppliers have nowhere else to sell (there is only one buyer)
What are the costs of a monopsony?
-the monopsony power of supermarkets has led to many farmers losing profits. Because supermarkets negotiate lowr prices.
-Workers might become unproductive if wages are low.
-Employees are likely to lose out with lower wages.
What are the benefits of a monopsony?
-The NHS has monopsony power when buying drugs from pharmaceutical companies. They can negotiate lower prices. Saves money to be invested elsewhere.
-Consumers might receive lower prices.
What are the characteristics of a contestable market?
-no significant barriers to entry and exit.
-no customer loyalty.
-no sunk costs.
-free access to production/technology.
What does contestable market mean for firms?
-firms are more allocatively efficient.
-low barriers to entry, provide easy access to the market, firms are wary of new entrant entering taking profit then leaving.
-highly contestable are similar to perfect competition.
Types of barriers to entry and exit:
Brand loyalty
limit pricing
predatory pricing
legal barriers such as patents
redundancy costs-discourage firms from leaving
What are sunk costs?
Costs which cannot be recovered once they have been spent.
Example of a sunk cost
advertising
