LESSON 3 MIDTERMS Flashcards
refers to the business environment within which the firm operates.
Market Structure
Market structure determines whether a firm has?
market power
is the ability to price a product above marginal cost and earn a positive
economic profit.
Market Power
A firm in an industry consisting of a large number of equivalently-sized rivals producing a
homogeneous product has market power. T OR F
FALSE (NO MARKET POWER)
may also be categorized by the number and size
distribution of buyers.
Markets
The extreme case of this is a market that consists of a single buyer,
which is referred to as a
monopsony.
A market comprising a few large buyers is referred to as an
oligopsony
the degree to which the product of
a firm differs from those of its rivals.
Product Differentiation
when products are perfect substitutes, buyers will purchase from
the firm that charges the lowest price. T O F
TRUE
The ease with which investment flows into and out of an industry can affect a
firm’s market power.
Entry and Exit Conditions
identified five “forces” that affect an industry’s
ability to sustain profitability and attract new investment.
Michael Porter (1980)
Three of Porter’s five forces come from internal sources. T OR F
FALSE (EXTERNAL)
Although a firm may be able to earn positive economic profits in the
short term, there is no guarantee that it will continue to do so in the
long run given the competitive pressures of the market place. T OR F
TRUE
GIVE The Five Forces Michael Porter (1980)
Threat of Entry
Threat of Substitutes
Competitive Rivalry
Bargaining Power of Buyers
Bargaining Power of Suppliers
Above-normal returns attract new firms into an industry, which
increase total output, depress prices and squeeze profits.
Threat of Entry
The existence of close substitutes erodes profitability, which
reduces the amount of new investment flowing into the
industry.
Threat of Substitutes
is the main driver in Porter’s five forces
model.the intensity of competitive rivalry can have
a profound effect on the ability of firms to sustain long-run
profits. Competitive tensions, which tend to be greatest in
industries that are not highly concentrated, exert down- ward
pressure on profits.
Competitive Rivalry
Buyers that are able to extract discounts and other more
favorable terms reduce a firm’s ability to extract and sustain
profits.
Bargaining Power of Buyers
Profits also tend to be lower in industries where suppliers of
raw materials, components, labor services, and so on have
the power to negotiate more favorable terms
Bargaining Power of Suppliers
is an industry characterized by a very large number
of small firms (in terms of output) producing a homogeneous output.
Perfect Competition
perfect competition is a comparatively common
market structure since there are very few industries in which firms produce
identically the same product. T OR F
FALSE (RARE)
Perfectly competitive firms have
market power. T OR F
FALSE (NO MARKET POWER)
can exercise a degree of discretion of
the price charged for their products.
Imperfect Competition
TYPES OF Imperfect Competition
monopolistic competition
oligopoly
is also characterized by large number of firms
in which entry and exit is unimpeded. The difference between this and perfect competition is that each firm attempts to carve out its own market niche by distinguishing its product on the basis of design, workmanship, customer ser-vice, and so on
Monopolistic Competition
is an industry structure that consists of a few firms producing a standardized or
a differentiated product.
Oligopoly
occurs when a
firm attempts to boost sales by providing consumers with information about the physical
attributes of its product.
Informative advertising
attempts to boost sales by creating an image that may have little
or nothing to do with the product’s physical characteristics, such as when a group of
elegantly dressed socialites are shown drinking a particular brand of scotch.
persuasive advertising
is an industry that consists of a single firm that
produces a unique product with no close substitutes.
monopoly
Unlike perfectly competitive firms, which are described as
price makers, monopolies are referred to as price takers. T OR F
FALSE
refers to the proportion of total industry
sales that is accounted for by the largest firms. It can be an important source of market
power and profits.
Industrial concentration
A useful indicator of market power that measures the demand sensitivity of a change in the price of the output of an entire
industry relative to that for an individual firm.
Rothschild Index
Suppose that the price elasticity of demand for the output of an
individual firm is −4 while the price elasticity of demand for the output
of the entire industry is −2. Calculate the Rothschild index for this
industry.
Rothschild Index for this industry is R = 0.5.
Industrial
concentration in perfectly competitive industries is high because
total output is diffused across a very large number of small firms. T Or F
False (low)
