3.4 Market structures Flashcards
Efficiency
How well or productively a firm or organisation uses inputs. The more efficient you are, the cheaper it is to produce a particular quantity of goods.
Productive efficiency
When firms produce at the lowest possible cost. This means production will be at the lowest point on the Average Cost curve.
Allocative efficiency
When the cost of producing the good is well matched to how much a consumer is willing to pay for it. We find this when MC=P.
X-inefficiency
X Inefficiency occurs when a firm lacks the incentive to control costs. This causes the average cost of production to be higher than necessary.
Dynamic efficiency
The optimal rate of innovation and investment to improve production processes to reduce average cost.
Perfect Competition
Many firms producing the same product. All firms are price takers and there are no barriers to entry. In LR, there are no supernormal profits
Monopolistic Competition
Many firms, producing similar but differentiated products. Low barriers to entry. Supernormal profits in the SR, but firms lose market share and demand when new firms enter market. Normal profits in LR.
Monopoly
A single seller, or when one firm is the whole market. Price maker. High barriers to entry. Will make supernormal profits in long and short run. Inefficient production and a deadweight loss to Society is likely.
Monopsony
A single buyer in a market.
Oligopoly
A market with a small number of interdependent firms with significant market share. Supernormal profits, strategic behaviour and collusion are likely.
Interdependence
The behaviour of firms will influence each other – oligopoly.
Natural Monopoly
A market where it is only possible for one firm to serve all consumers and make a normal profit. A market with extremely high fixed costs to establish a national network (railroads, telecoms, water supply).
Homogenous Products
Goods sold by firms in the market are identical. All the firms are perfect substitutes for each other.
Price takers
Each firm has a tiny market share and they cannot influence the market price of the good that they sell.
No barriers to entry or exit
Firms can enter and leave the market very easily in response to the opportunity to make more profits or the potential for losses.
Perfect information
All buyer and sellers have all the information and knowledge available about the goods available and the different firms.
No transaction costs
There are no additional costs of buying and selling goods in this market.
No externalities
There are no third party costs or benefits to consuming goods in a perfectly competitive market.
Diminishing marginal product
As input increases, output initially increases. Over time the amount of additional output gained from from an additional worker/FofP will fall.
Economies of Scale
Increasing the scale of production leads to lower costs per unit.
Diseconomies of Scale
Increasing the scale of production leads to higher costs per unit. This is when large firms become inefficient.
Minimum Efficient Scale (M.E.S)
The lowest point on the long run average cost curve.
Collusive Oligopoly
When oligopolies collude (co-operate) to raise prices, reduce output and make sure they share supernormal profits.
Non-collusive oligopoly
When oligopolies compete with each other, but they have to react to the decisions of their rivals.
Formal Collusion
When companies make firm agreements to set up markets and earn higher profits. This could be by setting the prices or controlling the amount of output with quotas. Cartels. Illegal.
Tacit Collusion
Where firms co-operate to earn higher profits, but nothing is written down or done officially – firms can predict what their rivals might do, so everyone can tacitly help each other. Hard to prove.
Game theory
The study of the different strategies that firms may choose, depending on how they think about what their rivals might do – helps us to see when oligopolies will collude or compete.
The Prisoners’ Dilemma
Example of Game theory where 2 players (the ‘prisoners’ or firms) will independently choose strategies that lead to a worse outcome than if they could trust each other and collaborate. Example of a Nash Eq.
Maximax strategy
When you choose the strategy that has the very best possible outcome for you. When you’re optimistic or ‘go for broke’.
Maximin strategy
When you choose the strategy where the worst outcome you could possibly get is ‘least bad’. When you’re pessimistic and you try to minimise your loss in any situation.
Nash equilibrium
An outcome which is a stable equilibrium (won’t change) but is sub-optimal for both players – this is the most lilkely outcome in the prisoners’ dilemma or when oligopolies have a price war.
Kinked Demand Curve
A theory of oligopoly. Firms can’t raise prices as their competitors will not follow - so demand is elastic heading upwards. Demand is inelastic heading downwards, as oligopolies will all cut prices together (price war) . So prices will probably STICK at the ‘kinked’ price.
Price leadership
The biggest firm in a market sets its price to maximise profits – other firms match or follow this firm in price setting.
Predatory Pricing
Big firm deliberately sets prices very low and makes a loss. But smaller firms cannot compete with this low price and are driven out of the market – destroys the competition. Often illegal.
Limit Pricing
Big firms with economies of scale & low average costs sets prices just enough to make normal profits. But this is too low for smaller competitors to even enter the market and discourages them. A barrier to entry.
Cost-Plus pricing
Firms set prices with a benchmark, such as cost + 10%.
Price wars
Collusion breaks down. Firms try to undercut each other with price cuts. Supernormal profit is wiped out, but the consumer benefits.
Non-price competition
Advertising and branding, service & after-sales support, quality, linked services/tie-ins. Ways of competing OR creating consumer-loyalty and barriers to entry.
Product differentiation
Producing variations of a product – different features, styles or colours to appeal to different consumers.
Sunk Costs
Costs that can never be got back– like fixed costs of machinery that cannot be sold on for another purpose.
Price Discrimination
Where a firm sells the same product at different prices (to different people or at different times). This is a strategy monopoly and oligopoly firms can use to maximise their supernormal profits.
Contestable Markets
Where there is free/costless entry into the market (no barriers). Monopolies will want to make markets less contestable through barriers.
