Information Economics Flashcards
Give an example of an industry in which marginal costs may never rise?
Information goods and services
Explain the market clearing price of producing information
The marginal cost of producing information is zero, so that’s the market clearing price
How can a firm make money out of selling information if its market clearing price is zero?
Using lock-in
What is lock-in?
Firms make it difficult to switch to their competitors because buying a product/service commits you to buying more of it, or spending money on one or more of:
1. Durable complementary assets eg. apps for a phone
2. Skills eg. fluency with Windows
3. Services eg. network service for a PC of mobile phone
State the Fundamental Theorem
The net present value of your customer base is the total cost of switching.
Eg. the value of Microsoft is what it would cost people to switch to Google Docs and Linux
How can you incentivise customers to switch to your firm?
By offering them cashback greater than what it cost them to switch
What is an incumbent firm?
A firm already established in the market
How do switching costs differ between incumbent firms and their competitors?
Incumbent firms strive to maximise switching costs, competitors to minimise them
Give 2 examples of how an incumbent firm could maximise switching costs
By promoting complementary goods and services eg:
1. They could be a mobile phone company that supports specific phone numbers, so these are not portable and to buy a new phone the customer would have to change their number
2. They could offer loyalty programs
What is meant by asymmetric switching costs?
A firm has to work harder to win a customer than it does to keep one
What is network externality?
The phenomenon where the utility each user derives from a network increases the more people use the network
State Metcalfe’s law
The value of a network is proportional to the square of the number of users
What is the effect of Metcalfe’s law?
Past some threshold number of users, network use takes off rapidly and creates lock-in
Network externalities apply to ‘real’ and ‘virtual’ networks. Give 2 examples of ‘real’ networks
- Fax
Network externalities apply to ‘real’ and ‘virtual’ networks. Give 2 examples of ‘virtual’ networks
- PCs
- Software
Eg. most people used to buy PCs instead of Macs because of software, so companies starting writing software for PCs before Macs as they thought PCs were winning, so PCs won
Draw a graph representing the effects of network externalities. Label it with an example of two companies that were acted on by network externalities
.
What 3 factors lead to a dominant-firm market model, where given all three monopoly is even more likely?
- High fixed costs plus low marginal costs
- Significant switching costs due to technical lock-in
- Network externalities
How can firms try to avoid a dominant-firm market model?
There is a race for market share whenever a new product/service market opens, with the philosophy ‘ship it by Tuesday and get it right by version 3’
What might be a limiting factor on a firm getting new customers?
The firm’s customer acquisition cost (CAC) must be less than their lifetime value (LTV)
What does EU law say about monopoly?
A fairly-won monopoly is OK but using dominance in one field to get it in another is illegal Eg. Amazon store vs aws
What does US law say about monopoly?
Monopoly used to be measured by consumer surplus (which doesn’t work for Google, Facebook etc.)
What is ‘selling to value’?
When an efficient monopolist sells to each customer at their reservation price to mop up consumer surplus
Give Pigou’s 3 degrees of price discrimination
- Personalised pricing (eg. haggling, loyalty cards)
- Versioning (eg. first/business/economy class, pricing for sharing, marketing)
- Group pricing (eg. student and OAP discounts)
What is price discrimination?
This involves the use of different prices charged to various customers for the same product or service
What is bundling and what does it conceal?
Bundling means selling a number of products together, and is used to conceal price discrimination
Give an example of bundling
Alice’s reservation prices: £50 for A and £75 for B
Bob’s reservation prices: £75 for A and £50 for B
With separate pricing, the firm would charge £50 per product and get £100 per customer, or £75 and get £75
By selling them together, gets £125 per customer
What is the decoy effect in bundling?
Adding an option no one would choose changes what people choose
Give an example of the decoy effect
A firm offers a web only option, a print option and a print and web bundle option. By making the latter two the same price they will increase the number of people who buy the bundle
Draw the income distribution graph, labelling A and B
.
What effect is income distribution having on global inequality?
Income distribution increases global inequality
Give the equation for the Gini coefficient
Gini = A/(A+B)
What is the Gini coefficient used to measure?
Inequality
What does a Gini coefficient of 0 represent?
Communism
What does a Gini coefficient of 1 represent?
The king has all wealth
State Conflict Theory
This is perspective that views society as a system characterised by power dynamics. Those with wealth and power try to hold onto it by any possible means, chiefly by suppressing the poor and powerless
How can income distribution change despite Conflict Theory?
Over time, the poor fight harder for welfare than the rich resist them
