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Economics micro 2 > Market structures > Flashcards

Market structures Flashcards

1
Q

Define productive efficiency

A

It is when the firm is operating at its lowest costs ( MC = AC )

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2
Q

Define allocative efficiency

A

When customers wants are met ( AR = MC )

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3
Q

Define dynamic efficiency

A

Occurs when firms adapt to meet changing needs overtime through product or production innovation

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4
Q

Define pareto efficiency

A

Economic state where resources cannot be reallocated to make one more of something without making one less of something else ( PPF - opportunity cost )

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5
Q

Define x-efficiency

A

When firms average costs are higher than they should be. ( The difference between the lowest point on ATC is the inefficiency ) Usually due to organisational slack

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6
Q

What are the 4 market structures ?

A

1.Perfect competition
2.Monopolistic competition
3.Oligopoly
4.Duopoly
5.Monopoly

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7
Q

What 5 elements define a market ?

A

1.Number of firms in a market
2.Degree of product differentiation
3.Barriers to entry and exit
4.Limit pricing and predatory pricing
5.Extent to which there is perfect information

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8
Q

What is the difference between natural barriers and artificial barriers ?

A

Natural barriers are inherit from the industry such as economies of scale, high R&D costs and sunk costs ( costs that cannot be recovered )

Artificial barriers are barriers erected by firms themselves e,g patents, high levels of expenditure on marketing, product differenciation and limit pricing and predatory pricing

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9
Q

Define limit prices

A

When firms set prices low enough to make it unprofitable for other firms to join the market. Meaning they sacrifice maximising short term profits for long term profits through deterring firms.

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10
Q

Define predatory prices

A

When firms set prices below average costs with the aim of forcing rivals out of the market. Once entrants have left they restore prices to their original level

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11
Q

What are the objectives of firms ?

A
  1. Profit maximisation - MC = MR
  2. Satisficing - sales max or revenue max
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12
Q

What is divorce of ownership from control and how does it impact business objectives ?

A

This when stakeholders have different aims. Such as the owners and managers that have different objectives.

Conflicts between them arise for example if shareholders want to maximise profits the managers will have to do the work but they won’t get a big reward as the shareholders would get. Meaning they would lose incentive to carry this job again compared to if they were acting on their own.

However moral hazard can allow managers to carry out risks and if there is damage it will be taken by the shareholders. There are 2 reasons why managers can deviate from shareholders :

1.cost of punishment is too high compared to the benefit gained from manager.
2.information symmetry as managers tend to know more about what is going on.

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13
Q

How do you tackle the problem of divorce of ownership from control ?

A

1.Profit related pay - giving managers shares
2.Satisficing approach - profit is set anywhere between max profit and normal profit where it is satisfactory to stakeholders

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14
Q

What are the benefits of revenue max ?

A

Revenue max occurs at MR=0
Through this firms can build greater market share and a loyal customer base e.g Netflix

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15
Q

What is sales max ?

A

when AC = AR - normal profits

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16
Q

What are the characteristics of perfect competition ?

A
  1. Many firms
  2. No barriers of entry
  3. Identical products
  4. Firms are price takers
  5. Perfect information

One price therefore you get the MR D AR P curve

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17
Q

How does profit maximisation in perfect competition change in SR vs LR ?

A

In short run where MC=MR the firm is making supernormal profits. Where as in the long run as more firms join the market the MRDAPR curve shifts down in which at profit max level the firm is achieving normal profits

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18
Q

Does allocative and productive efficiency occur in perfect competition ?

A

In the short run allocative efficiency only where as in the long run both allocative and productive efficiency is achieved.

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19
Q

What are the characteristics of monopolistic competition ?

A

1.Many firms
2.Low barriers of entry and exits
3.Product differentiation
4.Firms are price makers
5.Firms have more control over price and products

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20
Q

How does profit max change in monopolistic competition in the SR vs LR ?

A

In short run the firm is making supernormal profits at profit max. Where as in the long run firms enter the market offering differentiated products which would shift the demand curve inwards ( both MR and AR ) which results in normal profits at profit max.

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21
Q

Does allocative and productive efficiency occur in long run monopolisitc competition ?

A

no

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22
Q

Does monopolistic competition always result in welfare loss due to excess capacity ?

A

No, not always as consumers may prefer a wide choice of goods and services.

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23
Q

What are the characteristics of an oligopoly ?

A

1.Interdependence of firms
2.Possibility of collusion
3.High concentration ratios
4.Product differentiation
5.Barriers to entry and exit

DEVELOPED BY SWEEZY

24
Q

What are examples of oligopolies ?

A
  1. Supermarket chains - big 4
    2.Airlines
    3.OPEC
    4.Phone market
    5.Streaming services
25
Q

What is the concentration ratio ?

A

measurement of market share of the dominating firms
e.g 3:75 - three firms have the aggregate market share of 75%

Cr3 = 75% - three firms have the aggregate market share of 75%

26
Q

What is the market conduct/behaviour in an oligopoly ?

A

It is where an oligopolistic firms affects its rivals through its price and output decisions, but its own profits can be affected by how rivals behave and react to the firms decision. Therefore firms are interdependent.

Also they don’t usually compete on price but with advertising, branding and USP - huge costs in order to set themselves apart form rivals.

27
Q

What makes oligopolistic markets face uncertainty ?

A

Interdependence creates uncertainty because firms do not know how rivals will react to their policies and whether they will be proactive or not.

For example if one firm lowers down price in the hope of increasing revenue and market share other firms will most likely follow them and then this in the long run will reduce revenue for the whole market.

28
Q

What is the difference between non-collusive oligopolies and collusive oligopolies and cartels ?

A

Non collusive is when firms in competitive oligopoly act independently e.g they do not form agreements with each other.
( Demand is kinked so likely to collude to remove this problem )

Collusive oligopolies occurs with the aim of reducing uncertainty in the market by setting a price ring for the market - price stickiness. ( firms act as one firm to gain the same benefits as an monopoly - look at diagram). This occurs through a cartel which is a collusive agreement by firms to fix prices, restrict output and to deter entry of new firms.

They can then benefit abnormal profits

29
Q

What is a drawback of cartels ?

A

They can allow inefficient firms to stay in market whilst other more efficient firms can benefit from abnormal profits. (High prices and restrictions of choice ) - illegal

30
Q

What is the difference between collusion and market cooperation ?

A

Collusion is when firms form cartels for their benefit which is deemed anti competitive and against public interest.

Cooperation is when firms come togther to introduce improvements to the market such as improve health and safety measures and joint product development

31
Q

What is the kinked demand curve of non-collusive oligopoly ?

A

It is used to illustrate how a firm maybe affected by rivals reaction to its price and output decisions - explaining price stickiness in oligopolies.

32
Q

How does the kinked demand curve explain the effects of increasing and decreasing prices in oligopolies ?

A
  1. Price increase - it becomes more expensive than rivals and therefore, consumers will switch
    to its rivals. This leads to a significant fall in demand. As demand is price elastic.

In this case, of increasing price firms will lose revenue because the percentage fall in demand is greater than
the percentage rise in price.

  1. Price decrease - In the short term, it would cause a big increase in demand and leading to a rise in revenue. The firm would gain market share.

However, other firms will respond by also cutting price to follow the first firm. The net effect is that if all firms cut price – the individual firm will only see a small
increase in demand.

Because there is a ‘price war’ demand for a firm is price inelastic – there is a smaller percentage rise in demand. If demand is inelastic and price falls, then revenue will fall.

Therefor there is an incentive to maintain price as it is - Game theory - Nash equilibrium

33
Q

What are the assumptions of the kinked demand curve ?

A

1.Firms are non-collusive
2.Price stickiness
3.When a firm increases price others wont follow
4.When a firm decreases price others will follow

34
Q

What are the advantages of oligopolies for consumers ?

A

2.Supernormal profits allows firms to compete on non price factors so invest in R&D improving dynamic efficiencies.
3.Dominant firms can exploit economies of scale resulting in lower prices in the long run.
4.High supernormal profits can be taxed - gov revenue.

35
Q

What are the drawbacks of oligopolies for consumers ?

A

1.Cartel behaviour including price fixing colluding leads to higher prices.
2.High concentration and high levels of barriers deter innovative smaller firms from entering.
3.Persuasive advertising can manipulate people.
4.Many oligopolies avoid paying tax.

36
Q

What are price leadership, price agreements and price wars ?

A

1.Price leadership: setting prices in a market usually by following a dominant firm ( basically covert collusion)

2.Price agreements: agreement between a firm and similar firms, suppliers or consumers about pricing of a good and a service

3.Price wars: occurs when rival firms continuously lower prices to undercut each other

37
Q

What are the characteristics of a monopoly market structure ?

A

1.Theoretically one firm in the market
2.High barriers of entry
3.Price makers
4.Profit maximisers

38
Q

What are the 2 types of monopolies and the difference ?

A

1.Natural monopoly/pure monopoly:
Type of monopoly where costs of entry ( fixed costs ) are superhigh making it hard to enter/leave. This means ATC and AFC will fall as output increases e.g water industry. ( as marginal costs are very low )

LARGE INTERNALL ECONOMIES OF SCALE

2.Monopoly power: This is when any firm with more than 25% market share and has dominant monopoly power when has greater than 40% of the market. ( This is the real life situation where there is more than one firm )

39
Q

What are the Disadvantages of monopoly power ?

A

1.Market failure due to the misallocation of resources and the under consumption of a good or service. This is because if it was competitive they will operate at the AR=MC.
2.Loss of allocative efficiency
3.Regressive effects on low income households
4.X-inefficiencies because of the lack of market competition
5.Possiblility of diseconomies of scale as firms grow

40
Q

What are the advantages of monopolistic power ?

A
  1. Economies of scale
    2.Research and development improves dynamic efficiencies
    3.Tax revenues from monopolies
    4.Monopolies can be regulated
    5.Scaled monopoly can improve competitiveness of a country compared to global monopolies
    6.Cross subsidy - supernormal profits can be used for social benefits
41
Q

What are the efficiency conclusion of monopolies ?

A

1.Not allocatively efficient.
2.Not productively efficient - because of diseconomies of scale or they lose motive to reduce costs.
3.X-inefficiencies.
4.There is a potential of dynamic efficiencies - from supernormal profits as they can increase their market share through this which increases barriers to entry.

42
Q

What is price discrimination ?

A

Charging different price to different customers for the same product or service

43
Q

What are the 3 degrees of price discrimination ?

A

1st degree - charging the consumer the maximum price they are able and willing to pay e.g when bargaining

2nd degree - charging different prices depending upon quantity bought e.g bulks, time period and use of coupons

3rd degree - charging different prices to groups of people with different PED e.g student discount or OPE over 60

44
Q

What are the conditions for price discrimination ?

A

1.Firms must have sufficient monopoly power - pricing power
2.Being able to identify and segment the market
3.Ability to prevent re-sale (arbitrage)

45
Q

What are the negative effects of price discrimination on consumer welfare ?

A
  1. Price discrimination reinforces monopoly power leading to higher prices in the long run and loss of allocative efficiency
    2.Multi-purchase e.g bulks favours higher income or large families at the expense of one.
46
Q

What are the positives of price discrimination ?

A
  1. Makes better use of spare capacity leading to less waste.
  2. Helps generate extra cash for business so that they are better off during recissions.

3.Can be used in cross fund subsidy of goods and services - helps people in need.

4.Higher monopoly profits can fund R&D.

5.Can be seen as a progressive policy e.g in the US students on low income are able to pay less on tuition compared to 10 years ago.

47
Q

What is the exam gold conclusion/intro to an essay on price discrimination ?

A

welfare effects can be judged on a case by case basis. where the impact depends on how a business chooses to use their extra profits.

48
Q

Why is it that one firm exists in natural monopolies ?

A

Because it will be too expensive to set up another one

49
Q

What are the problems with natural monopolies ?

A

1) producer may restrict the quantity so that they benefit from supernormal profits

2) consumers may end up paying more than they need

3) there is no incentive to improve efficiencies

4) regulation - price caps can achieve allocative efficiencies

5) economic losses for the supplier can hinder R&D

50
Q

What are the 4 ways of managing a natural monopoly ?

A

1) Split the natural monopoly element of high fixed costs which are to be managed by the government and the customer service is to be managed by the private sector. E.g Network Rail pays for the infrastructure of tracks where is TFL - private - is in charge of customer services. ( encourages greater competition ) THIS IS CALLED MARKETISATION

2) Ensure it is well regulated e.g price cap then subsidise so firm can still make normal profits

3) Completely privatise

4) Completely nationalised

51
Q

What is a contestable market ?

A

It is a market where there is a potential threat of new firms to enter the market.

new entrants are called “challenger competition” e.g challneger banks

52
Q

what are the characteristics of a perfectly contestable market ?

A

1) low barriers to entry and exit
2) no sunk costs ( costs that can be recovered )
3) incumbent firms and new entrants have access to the same level of tech
4) weak brand loyalty

53
Q

What is the difference between contestability and competition ?

A

Competition refers to firms behaviour either in terms of price or non price competition to increase their sales and profits

Contestability refers to the threat of a new entrant which leads to firms behaving more like in perfect competition even when in a monopoly or oligopoly

54
Q

How does the absence of sunk costs result in “hit and run” competition ?

A

Firms are able to temporarily enter the market - make abnormal profits - leave when supernormal profits are competed away.

55
Q

What are examples of sunk costs ?

A

1) salaries / wages
2) advertising costs

THEY ARE NOT FIXED COSTS BECAUSE FIXED COSTS SUCH AS EQUIPMENT CAN BE SOLD SO THEY ARE NOT SUNK

56
Q

How can hit and run competition be beneficial for consumer welfare ?

A

It pushes firms to lower their prices through satisficing - limit pricing

57
Q

What is creative destruction ?

A

term used to describe process of economic change that results from the introduction of new tech or products that make existing ones obsolete

Economics micro 2 (3 decks)

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