Econ 101: Chapter 14 Flashcards
Market structure / industrial organization
the competitive environment in which you’re doing business
Market power
the extent to which a seller can charge a higher price without losing many sales to competing businesses.
The higher your market power…
the higher the price you can charge.
Perfect competition
where all businesses sell an identical good, and there are many small buyers and sellers.
Those in a perfectly competitive market…
hold no market power.
Monopoly
when there is only one seller in the market.
Monopolists hold…
a lot of market power; they can raise the price without losing customers to their competitors.
Oligopoly
a market with only a handful of large sellers.
An oligopoly has..
market power, but not as much as a monopoly
Monopolistic competition
a market with many small businesses competing, each selling differentiated products.
Product differentiation
efforts by sellers to make their products differ from their competitors.
You hold more market power when..
you have fewer competitors, and when your product is more unique.
Imperfect competition
when you face at least some competitors and/or you sell products that differ at least a little from your competitors.
Insight 1 into imperfect competition
more competitors leads to less market power.
Insight 2 into imperfect competition
market power allows you to pursue independent pricing strategies.
Insight 3 into imperfect competition
successful product differentiation gives you more market power.
Insight 4 into imperfect competition
imperfect competition among buyers gives them bargaining power.
Insight 5 into imperfect competition
you best choice depends on the actions that other businesses make (interdependence principle).
when you have market power…
you face a trade off between selling a larger quantity of items vs. making more money on each item you sell.
Firm demand curve
illustrates how the quantity that buyers demand from an individual firm or business varies as it changes the price it charges.
Perfect competition - firm demand curve
flat (horizontal) firm demand curve
Monopoly - firm demand curve
monopolist’s firm demand curve = market demand curve
Imperfect competition - firm demand curve
Downward sloping
- Steep = inelastic = more market power
- flatter = elastic = less market power
Ways to discover your firm’s demand curve:
Experiment with different prices…
- with different groups of customers.
- at different locations
- over time
Marginal revenue
the additional total revenue you get from selling one more unit.
Marginal revenue reflects…
the output effect − discount effect
Output effect
An extra unit of output will boost revenue by an amount equal to the price of the extra item sold, P.
Discount effect
to sell one extra unit, you must lower your price on all previous units sold. (∆PxQ)
Marginal revenue curve lies below the firm demand curve because…
of the discount effect.
the distance between the marginal revenue curve and the firm demand curve is…
the amount of the discount effect.
Rational Rule for Sellers
sell one more item if the marginal revenue is greater than (or equal to) marginal cost.
Follow the Rational Rule for Sellers to…
maximize profit
The quantity you should sell is where…
marginal revenue curve and marginal cost curve intersect.
The price you should charge is…
the price on the firm demand curve, above the marginal revenue curve.
Patent
gives you the right to be the only seller of the good you invent for a period of time
Patents effectively make companies…
monopolists –> market power is used to charge high prices.
In a perfectly competitive market, what is the quantity and price?
Where the firm demand curve and marginal cost curve intersect.
(1) Market power leads to…
higher prices
(2) Market power leads to…
an inefficiently smaller quantity
at the market power outcome…
the marginal benefit of more of the product is higher than the marginal cost.
Underproduction problem
businesses with market power supply less than the efficient quantity
The discount effect leads managers to…
supply less.
(3) Market power yields…
larger economic profits.
(4) Businesses with market power can…
survive even with inefficiently high costs.
Market power creates a…
market failure (underproduction – less is produced than is in society’s best interest)
Competition policy
laws and regulations designed to ensure that markets remain competitive.
Competition policy is also known as…
anti trust policy
Collusion
an agreement to limit competition –> creates market power
Mergers
can create cost savings that benefit society, but also yields market power that harms society.
Monopoly vs. monopolizing
being a monopoly is legal.
Monopolizing a market is illegal.
Monopolizing a market includes…
excluding competitors or preventing new competitors from entering.
Predatory pricing
charging a price so low to force you out of business, with the goal of raising prices later.
Price ceilings are…
implemented by government to limit the extent to which monopolies exploit their market power.
Set the price ceiling equal to…
marginal cost –> solves the underproduction problem –> businesses with market power will produce the perfectly competitive quantity.
In perfectly competitive markets, price ceilings
reduce economic surplus
In imperfectly competitive markets, price ceilings
raise economic surplus
Natural monopoly
a market in which it is cheapest for a single business to service the market.
Natural monoplies occur when…
marginal costs continuously decrease as you expand your output.
Governments can prevent natural monopolies from exploiting market power through…
pricing ceiling – setting their price equal to the marginal cost.
However, price would only cover marginal cost of last item produced.
(Natural monopoly) Governments end up..
providing these services directly, and pay for any losses out of its tax revenue.
