Week 10 Flashcards
A collusive agreement between two firms is likely to break down when ___
A collusive agreement might break down if any of the two firms “cheat” and charge a lower price for each service provided. If the other firm fails to detect it, the firm that lowers its price may be able to capture the entire market. That is, if another player can cheat without being detected, then it is difficult to maintain collusive agreements on keeping prices high. Another consideration that is important is the long-term value of the market. If the market does not have substantial long-term value, then collusion is more difficult to sustain. A colluder who values future monopoly profits more than current cheating profits will be more likely to abide by the collusive agreement. Impatient firms, such as those in danger of bankruptcy and therefore in desperate need of profits today, are more likely to cheat on the collusive agreement.
Some people might argue that the luxury tax in baseball is not an important determinant of major league salaries. As evidence, they show that team payrolls rarely exceed the threshold level and so teams rarely pay the tax.
Your answer to this question suggests the logic of the luxury tax is __________.
important, because it promotes low salaries.
What causes the deadweight loss of monopoly
The value to buyers exceeding the cost of production
Structure: Oligopoly
Few firms
Large firm size
Significant entry barriers
Possible product differentiation
Characteristics of firms summarised
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Measuring market structure
The concentration ratio X (CRX) is the combined market share of the biggest X firms
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Oligopoly collusion
An agreement among firms in a market about quantities to produce or prices to charge. When a group of firms collude they are known as a cartel. Successful collusion means oligopolists behave uncompetitively as if they were a joint monopoly maximising industry profits. However they each have an incentive to cheat on the agreement to get a greater share of industry profits for themselves. Collusion is more likely to succeed with fewer firms with similar products and production processes, stable cost and demand conditions and barriers to entry keeping new firms out.
Oligopoly collusion photo
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oligopoly competition
Market shares change over time as firms react to each other’s strategies and grow or decline. Sometimes firms merge with or acquire one another, changing market structure as firm size increases and firm number decreases.
Oligopoly regulation
The ACCC (Australian Competition and Consumer Commission): Competitive markets increase the prosperity and welfare of Australian consumers. Our role is to protect, strengthen and supplement the way competition works in Australian markets and industries to improve the efficiency of the economy and to increase the welfare of Australians. This means we will take action where this improves consumer welfare., protects competition or stops conduct that is anti-competitive or harmful to consumers, and promotes the proper functioning of Australian markets.
Controversial oligopoly practices
Collusion and cartels
Resale price maintenance
Predatory pricing and loss leading
Trying and bundling
Lacking price transparency
Illusory product differentiation
Mergers and acquisitions
Collusion and cartels
Firms make an agreement about how much to produce of or charge for a product. When a group or firms collude they are known as a cartel.
Resale price maintenance
Wholesaler requires retailers to sell its products above a specified retail price.
Predatory pricing and loss leading
A firm sells its product at artificially low price to drive out an efficient competitor
Trying and bundling
A firm will only sell one product if customers also buy another product
Lacking price transparency
A firm is not transparent about the price of a product and the reasons behind it
Illusory product differentiation
A firm uses advertising or research and development only to create the impression that its product is different from those of other firms
Mergers and acquisitions
In a merger two firms combine to become a single new firm. In an acquisition, one firm is bought out and becomes part of the other
SCP paradigm
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Strategic interdependence
Means one firm’s actions have a direct impact on the outcomes for other firms in the market and vice versa, and this interdependence is mutually recognised. Unlike the other market structures, oligopoly is characterised by strategic interdependence. Firms need to behave strategically, i.e. consider the actions of each other when making decisions.The ensuing cycle of action, reaction and counter reaction makes it difficult to determine long-run equilibrium. Therefore, we use game theory in the analysis of oligopoly
Focal points
People tend to choose salient, conspicuous, culturally or psychologically obvious alternatives, depending on imagination more than logic
Game theory
The study of how people behave in situations of strategic interdependence. A game is a model of a situation of strategic interdependence. Game theory is the mathematical analysis of a game. Game theory analyses each game by putting itself in the shoes of each decision maker and asking what they would do. We assume all players are rational and this is common knowledge
Rules of the game
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Nash equilibrium
A situation in which economic actors interacting with one another each choose their best strategy given the strategies that all the other actors have chosen
A beautiful mind example
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Dominant strategy
A strategy that is best for a player regardless of the strategies chosen by other players.
Coles and Aldi example
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The prisoner’s dilemma: achieving collusion
When the duopoly game is repeated many times then the prospect of future collusion with the other firm can cause a firm to collude and charge a high price. The industry will be inefficient as a join monopoly and charge a high price. However, when the last round of the game is known, firms will not collude.
Prisoners dilemma and other examples
We use the prisoner’s dilemma here as a model of collusion between firms in oligopoly. However, the prisoners’ dilemma describes many of social life’s most important situations and it shows that cooperation among people can be difficult to maintain, even when cooperation would make everyone better off.
Other examples include
tragedy of the commons/common resources (lecture 5)
free rider public or public goods (lecture 5)
moral hazard or principal-agent problem (lecture 4)
The tit for tat strategy
Starts by being cooperative and then does exactly as the other player did in the previous round. An eye for an eye
Tit for tat
Rewards cooperation
Punished defection
Forgives
Is very clear.
