Economics Topic 5 - Market Failure Flashcards
Market Failure
Failure of market to allocate resources efficiently
(allocative inefficiency)
Marginal Benefit
Benefits received by consumers for consuming one more unit of a good
Marginal Cost
Cost to producers of producing one more unit of the good
What are some types of markets
- Perfect competition
- Monopoly
- Monopolistic competition
- Oligopoly
What are characteristics of a perfect competition market
- Large number of buyers and sellers
- Firms are price takers (no market power)
- Homogenous products –> multiple number of firms selling the same thing
- No barriers to entry or exit
E.g. Agricultural market
What are characteristics of a monopoly
- 1 firm
- No close substitutes for product
- Firms are price setters
- High barriers to entry
E.g. Utilities (water, energy)
What are characteristics of an oligopoly
- Few large firms
- Goods are close substitutes
- Barriers to entry exist
- Sellers are independent - engage in strategic behaviour
- E.g. Supermarkets (coles, woolworths, iga, aldi), telecommunications (telstra, optus, vodafone)
What are characteristics of a monopolistic competition market
- Many firms
- Differentiated products but close substitutes
- Low barriers to entry
- Info is imperfect
- Firms are price setters
- E.g. Phone industry, computers
What are some barriers of entry into a market
- Economics of Scale
- Branding
- Legal barriers
- Control of essential resources
- Aggressive tactics
What is anti-competitive behaviour
Arrangements or agreements between firms that seek to restrain competition and remove the automatic regulation that competitive markets achieve (illegal)
What are some barriers of entry
- Economics of scale
- Branding
- Legal barriers
- Control of essential resources
- Aggressive tactics
Economics of scale as a barrier of entry
○ Economics of scale: Permitting lower average costs to be achieved as the firm increases its size
§ Avery total costs of large firm are substantially lower than costs faced by smaller firm
§ Large firm can charge a lower price than a smaller firm and force the smaller firm into a situation where it will not be able to cover its costs
Branding as a barrier of entry
○ Branding: Created by firm of unique image and name of a product
§ Advertising campaigns that try influence consumer tastes in favour of the product, attempting to establish consumer loyalty
§ Does not lead to monopolies, methods used by oligopoly and monopolistic competition
E.g. apple
Legal barriers of entry
§ Patents: Rights given by the government to a firm that has developed a new product or invention to be its sole producer for a specific period of time
□ They will have a monopoly during this time e.g. Patents on new pharmaceutical products
§ Licenses: Granted by governments for particular professions or particular industries
§ Copyrights: Guarantee that an author has the sole rights to print, publish, and sell copyrighted work
§ Public franchises: Granted by gov to a firm which is to produce or supply a particular good or service
Tariffs, quotas, and other trade restrictions: Limit the quantities of a good that can be imported into a country, thus reducing competition
Control of Essential Resources as a barrier of entry
§ Monopolies can arise from ownership or control of an essential resource
□ E.g. De beers mines roughly 50% of the world’s diamonds and purchases about 80% sold on open markets
Aggressive tactics as a barrier of entry
When existing firms use tactics to discourage new firms from entering the market
What are some business practices that reduce competition
- Cartel
- Collusion
- Market Sharing
- Collusive Tendering
- Predatory Pricing
- Resale price maintenance
- Exclusive dealing
- Collective boycott
- Merger
Causes of market power
- A firm has market power if it is able to affect the market price by varying output
- Firms in an imperfect market have market power as they are able to do so
○ E.g. Monopoly, oligopoly
○ Oligopolistic firms sometimes act together (or collude), usually illegally, to acquire greater monopoly power - Caused by their characteristics and barriers to entry
- Firms in an imperfect market have market power as they are able to do so
What are some policy options that effect market power
- Regulation
- Deregulation
- Legislation
How does regulation influence market power
- If there is a natural monopoly, it is not in society’s interest to break it up into smaller firms, as this would result in higher average costs and it would be inefficient
- Gov. Usually regulate natural monopolies, to ensure more socially desirable price and quantity outcomes
- Gov also control who enters market
How does deregulation influence market power
- Gov regulations that restrict comp include:
○ Limiting number or types of businesses
○ Limiting ability of businesses to compete
○ Reduce the incentives for businesses to compete
○ Limiting the choice and information available to consumers
Some gov. Regulations need to be de-regulated to enhance competition
How does legislation influence market power
- Put in place to limit anti-competitive behaviours to achieve a greater degree of allocative efficiency
- ACCC: aims to protect, strengthen and supplement the way competition works in Australian markets and industries
Enforce competition and consumer act 2010 and other legislation that promotes competition and fair trading’
- ACCC: aims to protect, strengthen and supplement the way competition works in Australian markets and industries
