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ECON (MACRO & MICRO) > 5 Perfect competition, imperfectly competitive markets and monopoly (MICRO) > Flashcards

5 Perfect competition, imperfectly competitive markets and monopoly (MICRO) Flashcards

1
Q

Define normal profit

A

the situation where a firm makes sufficient revenue to cover its total costs and remain competitive within an industry

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2
Q

Define abnormal profit

A

any profit above normal profit

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3
Q

What is the point of productive efficiency?

A

MC = AC

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4
Q

Define productive efficiency

A

producing goods and services with the optimal combination of inputs to produce maximum output for the minimum cost

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5
Q

What is the point of allocative efficiency?

A

MC = AR

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6
Q

Explain why the point MC = AR is allocatively efficient

A

as the value that consumers place on a good or service (reflected in the price they are willing and able to pay) equals the marginal cost of the scarce factor resources used up in production

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7
Q

When does allocative efficiency occur?

A

when there is an optimal distribution of goods and services, taking into account consumer’s preferences

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8
Q

Define consumer surplus

A

the difference between what consumers were willing to pay, and what they actually pay

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9
Q

Define producer surplus

A

the difference between what producers are willing and able to supply a good for and the price they actually receive

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10
Q

When does dynamic efficiency occur?

A

in the long-run

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11
Q

What is dynamic efficiency linked to?

A

the pace of innovation and investment, leads to the improvements in the performance and quality of the product

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12
Q

What is needed for dynamic efficiency to occur?

A

supernormal/abnormal profits

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13
Q

What is X-inefficiency?

A

where a lack of effective/real competition in a market or industry means that average costs are higher than they would be with competition

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14
Q

Give 4 characteristics of a monopoly

A
  • 25%+ of market share
  • price makers
  • profit maximising
  • abnormal profits
  • high barriers to entry
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15
Q

Give 4 characteristics of a oligopoly

A
  • few firms that dominate the market
  • high barriers to entry and exit
  • sticky or rigid prices
  • firms are interdependent
  • non-price competition
  • some product differentiation
    —> price makers
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16
Q

Give 4 characteristics of monopolistic competition

A
  • large number of small buyers and sellers
  • few and low barriers to entry
  • good knowledge/information
  • goods are non-homogenous / goods are slightly differentiated
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17
Q

Give 4 characteristics of perfect competition

A
  • large number of small buyers and seller (theoretically infinite)
  • no barriers to entry
  • perfect knowledge/information
  • goods are homogenous
  • price takers
  • no abnormal profits made in the long-run
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18
Q

Give 3 characteristics of a contestable market

A
  • no barriers to entry or exit
  • there are no sunk costs
  • perfect information and access to all existing technologies
  • there is a POTENTIAL for competition
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19
Q

Explain why a firm in perfect competition cannot make abnormal profits in the long-run

A
  • due to no barriers to entry, any abnormal profits will attract new entrants into the industry
  • this increases the market’s supply, reducing the price until all abnormal have been competed away
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20
Q

Explain why a firm in perfect competition will not make a loss in the long-run

A
  • due to no barriers to entry, if firms are making a loss, some will choose to leave the market
  • this will decrease supply, pushing up price until no losses are being made
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21
Q

What profit is made in the long-run in perfect competition?

A

normal profit

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22
Q

What efficiencies does a perfect competition firm operate at in the long-run?

A
  • productively efficient
  • allocatively efficient
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23
Q

Perfect competition will only result in allocative efficiency if…

A

.. there are no externalities (positive or negative) in the market

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24
Q

What is the profit maximising point?

A

MR = MC

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25
Q

What is the point of normal profit?

A

AR = AC

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26
Q

At what point will a monopoly operate at?

A

at the point of profit maximisation, where MR = MC

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27
Q

How could a monopoly be deemed as disadvantageous to the consumer?

A
  • operating below the point of allocative efficiency
  • thus there is a deadweight loss to society
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28
Q

How could a monopoly be deemed as advantageous to the consumer?

A
  • make supernormal profit, so can be dynamically efficient
  • this could be used for investment, innovation, research and development, which could reduce costs in the long-run
  • this could then be passed onto the consumer in terms of lower prices
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29
Q

Give 3 determinants of monopoly power

A
  • high barriers to entry
  • low number of competitors
  • advertising and product differentiation
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30
Q

Give 2 types of barriers to entry

A
  • legal barriers
  • absolute cost barriers
  • relative cost barriers
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31
Q

Give 2 types of legal barriers to entry

A
  • licences
  • patents
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32
Q

Explain what is meant by absolute cost barriers

A

the large amount of capital required to set up a firm in some markets

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33
Q

Explain what is meant by relative cost barriers

A
  • AC of new firms is higher than AC of incumbent firms
  • incumbent firms enjoy economies of scale and the benefits of R + D
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34
Q

Explain how high barriers to entry is a cause of monopoly power

A
  • decreases the number of potential competitors
  • means that one firm can dominate the market
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35
Q

When does a natural monopoly occur?

A

occurs when the benefits of economies of scale in an industry are so large that it is uneconomic for more than one firm to supply in that industry

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36
Q

Explain how high relative cost barriers is a cause of monopoly power

A
  • AC of new firms would be higher than the incumbent monopoly
  • because the monopoly has dynamic efficiency, economies of scale, R + D, etc
  • discourages new firms from entering the monopoly, reducing competition, causing/increasing the monopoly power
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37
Q

Explain what happens if a firm is making abnormal profit in a monopolistic competition market

A
  • low barriers to entry allow new competitors to enter the market
  • this has the effect of reducing the % of overall market share each individual firm enjoys, and make the demand for each product more PED elastic (due to an increased number of substitutes)
  • this shifts the AR and MR curves downward, competing away abnormal profits away
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38
Q

For a firm is monopolistic competition, when can abnormal profits be made?

A

in the short-run

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39
Q

Give 2 reasons why firms in monopolistic competition are not forced to be productively or allocatively efficient

A
  • differentiated products
  • lack of rigorous competition
40
Q

Compare the PEDs for a monolpoly and a firm in monopolistic competition

A

PED is more elastic for the firm in monopolistic competition

41
Q

Compare the PEDs for a firm in perfect competition, and a firm in monopolistic competition

A

PED is more elastic for the firm in perfect competition

42
Q

Explain how monopolistic competition can improve consumer choice of products

A
  • low barriers to entry mean that there is intense competition between firms
  • provides an incentive to compete for market share and profit
  • leading to more choice of product for consumers
43
Q

Explain why the increased product choice for consumers, as a result of monopolistic competition may not always be beneficial

A

Consumers have bounded rationality and may not make optimal decisions of there is a bewildering choice

44
Q

Referring to MC and price, give a potential benefit of monopolistic competition

A

in monopolistic competition, prices are kept closer to marginal cost, leading to improved allocative efficiency

45
Q

Explain why monopolistic competition may not be beneficial to the firms, in terms of productive efficiency

A
  • although competition keeps prices low, the saturation of products may lead to firms not exploiting economies of scale
  • this leads to a loss of productive efficiency
46
Q

Why are firms in an oligopoly able to make long-run abnormal profit?

A

due to high barriers to entry

47
Q

Why are firms in an oligopoly likely to be dynamically efficient?

A

as they face stiff competition

48
Q

How do firms in an oligopoly prefer to compete?

A

using non-price competition

49
Q

Give 2 examples of non-price competition

A
  • advertising
  • marketing campaigns
  • loyalty programs
50
Q

As firms in an oligopoly choose not to compete on price, what does this result in?

A

sticky/rigid prices

51
Q

Why is there an incentive for firms in an oligopoly to collude and fix prices? (2 reasons)

A
  • it would maximise their joint profits
  • it would increase their producer surplus
52
Q

What law would it break if firms in an oligopoly decided to collude?

A

EU competition law

53
Q

If firms in an oligopoly do collude, what market structure would they effectively be operating as?

A

a monopoly

54
Q

What would the 2 main costs to consumers from firms in an oligopoly colluding?

A
  • higher prices
  • lost consumer surplus
55
Q

What is meant by a non-collusive oligopoly?

A

where firms in the market act independently when setting prices

56
Q

what is meant by a collusive oligopoly?

A

where firms collude to fix prices or overall market supply

57
Q

Why doesn’t it make sense for a firm in an oligopoly to raise its price?

A

if it raises its price, other firms will not follow, so you lose a lot of quantity demanded

58
Q

Why doesn’t it make sense for a firm in an oligopoly to lower its price?

A

if it lowers its price, other firms will follow, so the quantity demanded wouldn’t massively increase

59
Q

Is a competitive oligopoly good for consumers and/or firms?

A
  • good for consumers
  • bad for firms
60
Q

Is a collusive oligopoly good for consumers and/or firms?

A
  • good for firms
  • bad for consumers
61
Q

Why is the number of firms that exist in a contestable market irrelevant?

A

due to the constant threat of new competition

62
Q

Why are the costs facing a new firm similar to, if not the same as, an incumbent firm, in a contestable market?

A

due to perfect information and access of/to all existing technologies

63
Q

What profit will a firm in a contestable market make in the long-run?

A

normal profit

64
Q

Why does a firm in a contestable market operate at AC = AR in the long-run?

A

to deter the threat of “hit and run” entrants in to the market

65
Q

How could governments use the theory associated with contestable markets when producing market-based solutions to market failures?

A
  • increasing the contestability in a monopoly industry
  • such as by deregulation and/or privatisation
  • this is principally done through reducing/removing barriers to entry and exit
66
Q

Give 3 pros of making a market more contestable

A
  • more allocative efficiency
  • more productive efficiency
  • more x-efficiency
  • job creation
67
Q

Give 2 cons of making a market more contestable

A
  • lack of dynamic efficiency
  • may lead to cost cutting in dangerous areas
68
Q

Give 3 ways that technology has increased contestability

A
  • has lowered barriers to entry and/or exit
  • has increased the pool of potential entrants
  • has improved the information available
69
Q

Define price discrimination

A

the action of selling the same product at different prices to different buyers, in order to maximise sales and profits

70
Q

Give 3 factors that firms may price discriminate because of

A
  • age
  • gender
  • country
  • region
  • time of day
71
Q

Give the four conditions that are necessary for price discrimination

A
  • different markets must have different PEDs
  • the firm must have price-making power
  • the markets must be able to be separated by time, place etc and be kept separate so that no cross-selling can occur
  • the cost of separating the markets must not be greater than the potential gain from price discriminating
72
Q

What is meant by first degree price discrimination?

A

where a firm with price making power charges each individual consumer the maximum price they are willing to pay, turning all consumer surplus to producer surplus

73
Q

What is meant by third degree price discrimination?

A

where the market is split in two according to their different elasticities of demand, different markets will then face different prices in order to maximise profits from the two markets

74
Q

Who first coined the term “creative destruction”?

A

Joseph Schumpeter

75
Q

What did Schumpeter say that innovation enables entrepreneurs to do?

A

enables entrepreneurs to compete with existing firms in an industry, eroding their profits and market share, and eventually becoming more powerful than them

76
Q

Give a real life example of “creative destruction”

A
  • the music industry
  • cassettes overtook vinyl in the 80s
  • compact discs overtook cassettes in the 90s
  • electronic downloads overtook compact discs in the 00s
77
Q

Define creative destruction

A
  • the process of how capitalism leads to a constantly changing structure of the economy
  • old firms and industries, which are no longer profitable and/or efficient, close down enabling resources to be moved into more productive processes
78
Q

Give 2 benefits of creative destruction

A
  • the threat of going out of business is an incentive for firms to move with the changing market and keep costs low
  • although there are short-term job losses, new jobs are also created through economic change
79
Q

Give 2 costs of creative destruction

A
  • some jobs are lost when new market models are introduced, may lead to structural unemployment
  • the firm or industry may provide external benefits which impact on social efficiency
80
Q

Give an example of where a firm or industry provided external benefits, but was shut down / not invested in to allocate resources elsewhere

A
  • the rail industry in the 60s, resources were taken away from rail and put into road travel
  • however, nowadays rail closures are now regretted as it can help reduce road congestion, pollution, etc
81
Q

what are some cons of being a monopoly? name 3

A
  1. Allocative Inefficiency
    Price is higher than marginal cost, meaning consumers are exploited paying more than what it costs to produce, and lower consumer surplus comes as a result, monopolies restrict output, restrict choice, and there can be quality issues.
  2. Productive inefficiency
    voluntarily forgo economies of scale, they don’t minimize their costs by operating on the lowest part of their average cost curve.
  3. x inefficiency
    Monopolies allow for waste in their production process, and complacency due to a lack of competitive drive. Producing beyond their average cost curve allowing for excess cost to creep in.
  4. Inequalities in necessity markets
    Because of higher prices poor can suffer the most if monopolies are focused more on necessity markets like food and drink.
82
Q

what are some pros of being a monopoly? name 3

A
  1. Dynamic Efficiency
    Being able to invest supernormal profit being made back into the business, is good for consumers because we get innovative new products of higher quality, better technology over time, and potentially lower prices over time. But it’s also good for producers who are able to earn market share by being able to beat rivals through their innovation over time, better technology can lower prices over time.
  2. Greater Economies of Scale
    Despite the productive inefficiency of monopoly compared to competitive firms, they may still be exploring greater economies of scale purely because of their size.
  3. Natural Monopoly
    A regulated natural monopoly would give socially desirable outcomes, as a pose to a natural monopoly market where there is competition which brings inefficiency
  4. Cross Subsidisation
    Monopolies can cross-subsidise goods and services, they can use their very high supernormal profits to subsidise a loss-making good or service that they are also producing but that is socially desirable.
83
Q

How do you draw a monopoly diagram?

A

https://gyazo.com/3841a53a4ea7ca0710b20850d03c9813

84
Q

Where is profit max found on a monopoly diagram?

A

MR=MC

85
Q

Where does it show supernormal profit on a monopoly diagram?

A

AR-AC (lowest point of average cost)

86
Q

MONOPOLY 25 MARKER
Evaluation of Dynamic Efficiency. (critic the theory)

A

We can critic whether or not dynamic efficiency is really going to work, in theory yes in reality so many other things can be done with the profits monopolies generate; they can give it to shareholders via high dividends, they can save it, they can leverage pay of debt, pay workers higher salaries that is not reinvesting into capital in a business. NOT A GUARANTEE

87
Q

MONOPOLY 25 MARKER
Evaluation of the objective of the monopolist

A

Assuming its profit max leads to outcomes of allocative inefficiency, and price exploitation, restriction of output, but what if the objective of the monopoly was better for society, like sales maximization

88
Q

Where is the sales max point found on a monopoly diagram?

A

AR = ATC

89
Q

how do you draw the kinked demand curve model (oligopoly)?
(DRAW IT)

A

https://gyazo.com/56529320aed8201c04bee96314725487

90
Q

examples of oligopolies

A

car industry, petrol retail, pharmaceutical industry, coffee shop retail, and airline

91
Q

What are the impacts on an oligopoly if the price is raised? (Kinked Demand Curve)

A

If a firm increases the price, then it becomes more expensive than its rivals and therefore, consumers will switch to its rivals. This means, if there is a price raise there is likely to be a significant fall in demand. Demand is, therefore, price elastic.

92
Q

What are the SHORT-TERM impacts on an oligopoly if pay is cut? (Kinked Demand Curve)

A

In the short term, if a firm cuts price it would cause a big increase in demand and therefore would lead to a rise in revenue. The firm would gain market share. However, other firms will not want to see this fall in market share and so they will respond by also cutting price to follow the first firm. The net effect is that if all firms cut price - the individual firm will only see a small increase in demand.

Because there is a “price war” demand for a firm is price inelastic - there is a smaller percentage rise in demand.

93
Q

Should the kinked demand curve give the incentive to raise/cut prices?

A

NO!

94
Q

excamples of Non-Price Competition

A

Branding
Advertising
Quality

95
Q

Conclusion point for kinked demand curve (oligopoly), Temptation to collude…

A

Colluding give you monopoly power in an oligopoly which allows you to pay rise without issue of demand falling, to make very high profits.

96
Q

Perfect Competition vs Monopoly points.. (GOOD)

A

Draw a Monopoly diagram.
https://gyazo.com/e6c2547a900e919b6441afee7357cacf
(Monopoly Quantity, at profit max point, Perfect Competition Quantity, at the allocative efficient point)

GOOD
1. Economies of Scale benefits which may lead to lower prices then a perfectly competitive firm. Perfect competition has more firms in the industry meaning there’s less chances to exploit economies of scale because production wont be great enough, as there’s to many firms around to increase regular production by that much whereas, for a monopoly there is a much greater chance to exploit all economies of scale which is good for the firm (cost reduced per unit) and good for the consumer (cheaper prices and greater quantities)

  1. Dynamic efficiency gains.
96
Q

Perfect Competition vs Monopoly points.. (BAD)

A

Draw a Monopoly diagram.
https://gyazo.com/e6c2547a900e919b6441afee7357cacf
(Monopoly Quantity, at profit max point, Perfect Competition Quantity, at the allocative efficient point)

BAD
1. Monopoly is bad because the price goes up and quantity is reduced, meaning the choice is restricted consumers are demanding resources at Qc (allocative efficiency), but resources aren’t provided at that level, so the choice is restricted in the market

  1. May suffer from diseconomies of scale depending on where it’s producing on the average cost curve.

ECON (MACRO & MICRO) (19 decks)

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