Barriers to Entry and Exit

Question 1

What are barriers to entry and exit?

Answer 1

Costs or inconveniences that firms face when entering or exiting a market

Question 2

Why do barriers to entry allow a market to earn supernormal profits in the long run?

Answer 2

As they are additional costs/ inconveniences, the profit in the market would have to be enough to cover the costs of the barriers to entry otherwise firms won’t join the market

Question 3

What are the three types of barriers to entry?

Answer 3

• Legal
• Technical
• Strategic

Question 4

What are legal barriers to entry?

Answer 4

Rules and regulations which create a barrier to entry, e.g. license to sell alcohol

Question 5

What are technical barriers to entry?

Answer 5

Natural barriers to entry which cannot be circumvented or removed, therefore the market will always have supernormal profit

This includes: high start up costs, high sunk costs, economies of scale (MES point)

Question 6

What are strategic barriers to entry?

Answer 6

These are based on firm’s behaviour as it is the incumbent firms’ interest to create barriers to entry, e.g. predatory pricing (deliberately lowering price making a loss to drive out competition)

Other examples: limit pricing (reducing price to deter new firms from joining and other firms in the market will lose profits)

Branding (making their product seem unique so consumers undervalue substitutes = less competition)

Question 7

Effects of barriers to entry on static efficiency and elasticity of demand?

Answer 7

More barriers to entry leads to less static efficiency and more inelastic demand due to less substitutes

Question 8

Can natural (technical) barriers to entry be removed and what type of market structure do they lead to?

Answer 8

Natural barriers to entry cannot be removed by the government, thus a natural monopoly will be formed as only one or a few firms will exist

Question 9

Can artificial (legal and strategic) barriers to entry be removed and what type of markets will this lead to?

Answer 9

Yes they can be removed as they are human made and not naturally occurring. With them removed a more competitive market will be created with more static efficiency

Question 10

What are unintended consequences?

Answer 10

Removing some barriers to entry can cause unintended consequences, for example removing environmental regulations will improve competition and efficiency but there will be an unintended consequence of harming the planet