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economics > 3.4) market structures > Flashcards

3.4) market structures Flashcards

1
Q

What are the different types of efficiencies? And which are static?

A
  • Productive -static
  • Allocative - static
  • X-inefficiency
  • Dynamic
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2
Q

What is productive efficiency?

A
  • When AC is at its lowest point
  • MC = AC
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3
Q

What is allocative efficiency?

A
  • When welfare is maximised
  • MC = AR = price
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4
Q

What is X-inefficiency?

A
  • When for a given level of output, the firm’s costs are above its AC curve
  • Producing at costs > AC – for a given level of output
  • Shown as gap between actual costs and their AC curve
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5
Q

What is dynamic efficiency?

A
  • The effect of changing technology on the improvements to a firm’s output potential over time
  • To become dynamically efficient, firms have to reinvest their profits into R&D. To do this, they have to be making supernormal profit (AR > AC)
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6
Q

What are the conditions of a perfectly competitive market?

A

1) infinite number of smaller buyers and sellers
- each of these are small enough that no single supplier or consumer has any market power or can affect the market on their own.
- all firms are price takers - with the same current market price

2) consumers and producers have perfect information
- every consumer decision is well-informed - perfect knowledge about all the goods and their prices in a market
- every supplier has perfect knowledge of the market and production methods and the prices at which every other firm sells at

3) products are homogenous (identical)
- so consumers can always switch between products from different firms (substitutes)

4) low to no barriers to entry and exit
- new entrants can join the industry very easily and existing firms can leave equally as easily

5) firms are profit maximisers - all decisions are geared towards doing so. produce where MC = MR

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7
Q

Why does perfect competition usually lead to allocative efficiency?

A

Perfect competition leads to allocative efficiency as it ensures goods and services are distributed according to consumer preferences.

1) as no single entity has power to influence the market, the price of a good is determined simply by market forces where P = MC. Firms must accept this price because they are price takers

2) when the value the consumers place on the good is equal to its price, demand curve = marginal utility

3) No barriers to entry and exit means that firms will be attracted if they see that supernormal profits are being made - increasing supply and driving down the price until normal profits are made. Ensures resources are not wasted on goods that are not valued by the customers.

4) PC promotes innovation because firms are under constant pressure to improve their products and reduce their costs in order to attract and retain customers, leading to dynamic efficiency

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8
Q

Why can no firms make supernormal profits in the long run?

A

1) no firm makes supernormal profits in LR because they are competed away

2) short term supernormal profits attract new firms (easily due to no barriers to entry) and firms undercut each other until they all firms only make normal profit - an increase in supply drives down the price

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9
Q

How does perfect competition lead to productive efficiency?

A
  • productive efficiency comes as a result of all firms trying to maximise their profits, which firms in PC do - where MC = MR (LR)
  • in the LR, the output level is at the bottom of the AC curve… lowest possible cost level
  • only possible if it is assumed that there are no EOS because each firm is very small and cannot take advantage of EOS
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10
Q

Why does perfect competition doesn’t lead to dynamic efficiency?

A
  • In a perfectly competitive market, they can only earn normal profit so there is no reward in return for considerable investment - dynamic efficiency not achieved
    BUT
  • they achieve static efficiency (allocative and productive) but that changes with consumer tastes and tech
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11
Q

Why does the government encourage competition in markets?

A
  • PC leads to efficient long run outcomes - all types of efficient except dynamic
  • they want to make sure that firms produce efficiently and reduce costs where possible but also set prices at a fair level
  • competition also encourages firms to innovate - new products created - more choice for consumers and new production processes, so firms can reduce their costs
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12
Q

What policies can the govt. introduce to increase competition?

A
  • encourage new enterprises with startup subsidies and advice
  • increasing consumer knowledge by making sure comparison information is available
  • creation of internal markets in the public sector - hospitals in NHS competing for patients
  • privatize and deregulate large monopolistic nationalised industries
  • discourage mergers and takeovers which reduces the number of competing firms
  • encourage international competition e.g. joining EU - a multinational ‘single market’
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13
Q

What are some examples of barriers to entry?

A
  • patents, copyrights of a new product
  • branding, familiarity and reputation
  • aggressive pricing tactics to drive out new entrants - limit pricing or predatory pricing
  • expenses and difficulty of advertising as a new firm - sunk costs
  • threat of price wars
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14
Q

What is a (pure) monopoly? What are its key features?

A

a market containing a single, dominant seller with 100% market share - a pure monopoly e.g. microsoft in the 1980s
in law, a firm has a legal monopoly if it has a market share of 25% or more - tesco 29%

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15
Q

What kind of profits does a monopolist make?

A
  • assumed to be profit maximisers where MC = MR
  • they make supernormal profits even in the long run because - as there are total barriers to entry - no new firms enter the market and the supernormal profits is not competed away
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16
Q

Are monopolies efficient?

A

neither allocatively, nor productively
- MC is not equal to AC meaning that the firm isn’t operating at the lowest point on the AC curve
- the price AR is also above the MC so producers are being ‘over-rewarded’
- restricted supply = underconsumption of products - consumers no longer getting as much of the product as they want

17
Q

What are the drawbacks of monopolies?

A
  • no need for a firm with monopoly power to innovate or respond to changing consumer preferences in order to make a profit - complacency
  • no need to increase efficiency, so x-ineffciency remains high
  • consumer choice is restricted because no alternative products
18
Q

What are natural monopolies?

A
  • industries where there are high fixed costs and large continuous EOS e.g. national rail
  • if there was more than one firm in the industry, then they would all have the same high fixed costs, leading to higher costs per customer than a single firm
  • in this case, having a monopoly is more efficient e,g NHS, water supply so a govt. would be reluctant to break it up
  • govt may provide subsidies so that output increases to AR = MC
19
Q

What are some benefits of monopolies?

A
  • large size = EOS = can keep average costs and hopefully pirces low
  • supernormal profits + security in the market means that it can have a long term view and invest in R&D - dynamic efficiency
  • financial security = stable employment for workers
  • intellectual property rights allow limited legal monopoly if it benefits the consumers’ interest - better quality, innovative products + copyrights, patents (Barrier to entry) so other firms cannot buy these ideas off of them
20
Q

What is a monopsony?

A
  • When a single buyer dominates the market
  • can act as a price maker and drive down prices e.g. supermarkets accused of unfairly using market power to force suppliers to sell their products at a loss (same can be done with labour)
  • seen as exploitation but can ultimately benefit the consumer if low prices are charged
21
Q

What is thrid degree price discrimination? What are its conditions?

A

when a seller charges different prices to different customers for EXACTLY the same product e.g. cinema tickets, train tickets
- seller must have some price-making power - monopolies and oligopolies
- they must be able to clearly distinguish between separate groups of customers that have different PED e.g. ages, times, places. higher prices to inelastic and lwoer to elastic
- must be able to prevent reselling

22
Q

How does price discrimination affect consumer surplus?

A

price discrimination attempts to turn consumer surplus into producer surplus as additional revenue for the seller

23
Q

How does price discrimination affect producers and consumers?

A
  • means that some or all of the consumer surplus is converted into revenue for the seller BUT this could be used to improve products or invested in more efficient production methods leads to lower prices
  • does not lead to allocative efficiency because AR > MC
  • consumers not treated equally but can be seen as fair because people who end up paying more have higher income so can afford it ESPECIALLY if greater profits are used to subsidise lower prices - form of income redistribution
24
Q

How is concentration ratio calculated?

A

concentrated markets are those that are dominated by just a few companies (even though there may be many firms in the industry overall)
- n-firm concentration: market share/ total market x 100

25
Q

What is an oligopoly?

A
  • dominated by just a few firms
  • high barriers to entry (entrants can’t easily compete away supernormal profits
  • differentiated products (similar but not identical)
  • firms are interdependent - actions of each firm will affect the other
  • firms use competitive or collusive strategies to take advantage of interdependence
26
Q

what is the difference between competitive and collusive behaviour?

A
  • when firms compete on price and don’t cooperate is competitive behaviour
  • when the firm work with each other, especially over what prices are charged
27
Q

what are the different types of collusion?

A

formal collusion - involves an explicit agreement between the firms i.e. they form a cartel (usually illegal)
informal or tacit collusion - happens without any kind of agreement. this happens when each firm knows it is in their best interest not to compete, as long as all the other firms do the same
- a firm in a collusive oligopoly, one firm may act as a price leader for others to follow

28
Q

when is a market more likely to be competitive or collusive?

A

competitive:
- when one firm has lower costs than the others
- when there is a relatively large number of big firms in the market - more imperfect information
- very similar products
- barriers are relatively low

collusive:
- firms all have similar costs
- relatively few firms in the market - more easy to get information
- brand loyalty - customers are less likely to buy from a diff. firm, even when prices are lower
- barriers to entry are relatively high

29
Q

How does game theory explain the effects of interdependence?

A

the fate of each player (each trying to work out what to do to further their interests) depends on their own decisions, and the decisions of everyone else. so all the players are interdependent

30
Q

what is the prisoners’ dilemma?

A

can be used to understand how interdependent firms might act in an oligopolistic market

31
Q

what are the conditions for monopolistic competitions?

A
  • some product differentiation - either due to advertising - so the seller has some degree of price making power but more similar the products, the more price elastic
  • low to no barriers to entry so if very high profits are earned, then it is easy to join the industry
32
Q

what are the short run and long run positions of a monopolistic market?

A

short run:
- supernormal profits can be made but only in the short run
- profit maximising level if MC = MR

long run:
- new entrants enter easily because the barrier to entry are relatively low. new entrants will cause the established forms demand curve to shift to the left (overall split)
- new entrants will continue to enter, incentivised by the supernormal profits and the demand curve will continue to shift to the left
- - until only normal profits can be earned where MR =MC

33
Q

why does monopolistic competition not lead to dynamic efficiency?

A

1) the length of time it takes for new entrants to force all firms in monopolistic competition to make normal profit is the length of time an incumbent firm can make supernormal profits
2) supernormal profits are reward for production investment or production innovation but due to lack of barriers to entry they are unlikely to

34
Q

what is contestability?

A

refers to how open a market is to new competitors, even if currently there’s little actual competition
- barriers to entry and exit are low. so if excess profits are made by incumbent firms, new firms will enter
- supernormal profits can potentially be made by new firms at least in the short run

35
Q

what may cause a market to have low contestability?

A
  • patents on production methods to stop firms from copying
  • advertising by incumbent firms leads to strong brand loyalty
  • threat of limit pricing - predatory pricing - tactics by the incumbent firms. fear of price war
  • trade restrictions - don’t allow foreign entrants to compete in domestic markets on equal terms
  • vertically integrated incumbent firms
  • high sunk costs - cannot be recovered - deters new entrants from entering the market
36
Q

how do low barriers to entry in a contestable market lead to hit and run tactics?

A
  • meaning that new entrants will easily enter a market while supernormal profits can be made and then leave the market once the prices have been driven down to normal profit levels
37
Q

how does contestability affect the behaviour of incumbent firms?

A
  • the threat of increased competition affects how the incumbent firms behave. they will know that high supernormal profits are likely to attract new entrants, and they will likely drive down prices
  • makes more sense for them to sacrifice some short term profits and set lower prices to avoid this so profits can be maximised in the LR
  • can also create high barriers to entry - spending on advertising
38
Q
A

economics (11 decks)

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