Firm Behavior under Different Market Structures Flashcards
How is marginal cost derived?
The increase in total cost that arises from an extra unit of productio
How is marginal cost related to total cost?
The portion of total cost resulting from an extra unit of production.
What is the specific formula to calculate marginal cost?
Change in total cost divided by change in quantity
If Dave’s company has a total cost of $100 when quantity output is 5, and a total cost of $115 when quantity output is 6, what is the marginal cost of producing the 6th unit?
15.00
Total cost is made of two types of costs, what are they?
Fixed and Variable.
How does a firm determine to shut down in the short-run? What rule characterizes this?
If the revenue that it would earn from producing is less than its variable costs of production. P
What is a price taker? Which of the market structures are characterized as being “price takers”?
One who must accept the price as the market determines. Competitive markets
When a market is characterized as being a price taker, what fundamental shape does the demand curve for this market take?
Horizontal line.
How is the demand curve for a perfectly competitive firm distinct from the demand curve for a monopolistic market?
Downward-sloping
What does “downward sloping” with regards to a demand curve mean?
The monopoly has to accept a lower price if it wants to sell more output.
Where do firms with market power determine the quantity of product/service they will produce?
A firm chooses a quantity of output such that marginal revenue equals marginal cost. The firm chooses quantity so that price equals marginal cost. Thus, the firm’s marginal-cost curve is its supply curve.
What is the primary goal/objective of the firm?
Maximize profit.
If the firm has price setting capacity, how will they use information about marginal costs and marginal revenues in order to accomplish their primary objective?
The monopolist’s profit-maximizing quantity of output is determined by the intersection of the marginal-revenue curve and the marginal-cost curve.
Describe the basic distinctions between the market models with respect to: number of market participants, type of product being marketed, ease of entry/exit into the market, and the prevalence of advertising/marketing.
Monopoly and Oligopoly have one to few firms, with limited products (cable TV), entry is difficult, and advertising is a natural feature. Monopolistic competition/perfect competition have many firms, mono comp has differentiated products (novels/movies) and perfect comp has identical products, entry is easy, and spend very little on advertising.
What fundamental truth is realized when studying the behavior of an oligopolistic firm within the context/model called “prisoner’s dilemma”?
Self-interest makes it difficult for the oligopolists to maintain the cooperative outcome. Relentless logic of self-interest drives the participants toward the non-cooperative outcome, which is worse for both parties.
How might an oligopolistic firm behave like a monopoly? What forces may prevent this?
Forming a cartel and acting like a monopolist, but self-interest drives them towards competition.
What are the 4 types of market structure
Monopoly (one), oligopoly (few firms), monopolistic competition (differentiated products), perfect competition (identical products)
What characterizes a competitive market?
Market with many buyers and sellers
Homogenous products traded
Buyers and sellers are price takers
Easily enter/ exit market
What is average revenue in perfect competition
Price
What is marginal revenue in perfect competition
Price
What is the rule of profit maximization in perfect competition
1) Produce where the gap between total revenue and total cost is the greatest
2) produce where marginal revenue = marginal cost
What is shutdown in perfect competition?
Short run decision not to produce anything during a specific period of time because of current market conditions
- firms cannot avoid fixed costs (sunk)
What is the shutdown rule?
If price is less that average variable cost, you should shutdown
What is exit in perfect competition
Long run decision to leave the market
- firms CAN Avoid fixed costs
When should you exit
When Price is less than average total cost
When should you enter a market?
When the price is greater than the average total cost
What characterizes a monopoly
Sole seller of a product/ service
No close substitutes
Price maker!
Barriers to entry: resources, regulations, natural monopolies
Perfect competition vs monopoly
Influences prices?
Perfect competition- No
Monopoly - yes
Perfect competition vs monopoly
Size of firm to market?
Perfect competition- small
Monopoly- 100%
Perfect competition vs monopoly
Demand curve shape?
Perfect competition- horizontal
Monopoly- downward sloping
Perfect competition vs monopoly
Market decisions?
Perfect competition- quantity
Monopoly- quantity and price
How does a monopoly maximize profit
By choosing the quantity at which marginal revenue equals marginal cost. (Then demand curve will show the price that induces consumers to buy that quantity.)
What are the characteristics of monopolistic competition
Many sellers
Product differentiation
Free entry/ exit into the market
What is a key for monopolistic competition
ADVERTISING!!
Characteristic of oligopoly
Small group of sellers (2-12)
Similar or identical products
Tension between cooperation and self-interest (We vs Me)
Game theory
Duopoly
Price is determined by market demand
- Collusion (combine to form monopoly)
- don’t collude, and compete with each other
What is nash equilibrium
Each economic actor chooses best strategy. Consider other actor decisions
What is dominant strategy
Strategy that is best for a player in a game regardless of the strategies chosen by the other players
What happens if you increase the number of sellers in oligopoly
Takes on characteristics more like competitive market
Price approaches MC
quantity produces approaches socially efficient level
Characteristics of prisoners dilemma
Each prisoner pursues own interest (Me)
Illustrates why cooperation is difficult to maintain even when it is mutually beneficial.
- cooperation (we) is individually (me) irrational
What is the policy maker response in oligopoly
Encourage firms to compete instead of cooperate.
