copyright © [email protected] 2010, all rights reserved estudy.us oligopoly
Post on 20-Dec-2015
212 views
TRANSCRIPT
copyright © michael [email protected] 2010, All rights reserved
eStudy.useStudy.usMarket Structure – A classification system for the key traits of a market, including
• the number of firms, • the similarity of the products they sell, and • the ease of entry and exit
Oligopoly
only a few firms (firms have market power, can change price)
offer identical (homogeneous) or similar (differentiated) products
difficult to enter or exit the industry
Oligopoly
Interdependent unlike participants in perfect competition where firms don’t need to consider actions of other producers in the short run, in oligopoly actions of each firm will impact other firms in the market
copyright © michael [email protected] 2010, All rights reserved
eStudy.useStudy.us Market StructureEconomists who study industrial organization divide markets into four types: monopoly, oligopoly, monopolistic competition, and perfect competition.
Number of Firms
Monopoly Oligopoly Monopolistic Competition
Perfect Competition
One Firm Few
FirmsProduct Type
Many Firms
DifferentiatedIdentical
½ ton trucksWireless phones
NovelsMovies
WheatCorn
Tap WaterSewer Services
Imperfect Competition
copyright © michael [email protected] 2010, All rights reserved
eStudy.usImperfect competition – between perfect competition and monopoly
• Oligopoly• Monopolistic competition
• Produce a quantity where price is greater then marginal cost• Price will be higher than Perfect Competition • Quantity produced will be less can Perfect Competition
Oligopoly
eStudy.us Oligopoly Definition • Homogeneous Oligopoly
– Steel (U.S. Steel, Arcelor Mittal, Nuco)
– Copper (Phelps Dodge, Arasco, Freeport-McMoRan, Southwire)GE or GM both needing Steel and Copper will write specification and no matter which producer wins the business GE and GM will get an identical product.
• Differentiated Oligopoly– ½ Ton Truck Market (Ford, GM, Chrysler, Toyota)
– Commercial Airline Market (America, United, Southwest, Delta, _________, ___________
Even if you don’t know a thing about ½ ton trucks you can identify every truck producer. How? Trucks are different and each one has the brand name on the vehicle.
eStudy.us Markets with Few Sellers
Two types of Oligopoly• Collusive – market participants work together to
greater a better profit outcome• Non-collusive – act as competitors in the market place
A small group of sellers– Tension between cooperation and self-interest– Best to cooperate with other firms to create monopoly profit– However, each firm cares only about its own profit which
creates a powerful incentive not to cooperate
Duopoly – Oligopoly with only two members
eStudy.us Non-collusive
Oligopoly firms participate in non-price completion– Unique product features (iPhone, iPad)– Increase transaction cost of switching
• Contracts (Wireless phones, insurance, etc…)• Lock-in ([email protected])
eStudy.us• Non-collusion results in:
– Higher quantity – lower price– lower profit
• Equilibrium Theory– Game Theory: how people or firms behave in strategic situations
• Choose among alternative courses of action• Must consider how others might respond to the action they take
– Nash equilibrium: economic actors interacting with one another each choose their best strategy given the strategies that all the other actors have chosen
Non-collusive
eStudy.usThe prisoners’ dilemma
– Particular “game” between two captured prisoners– Illustrates why cooperation is difficult to maintain
even when it is mutually beneficial
Dominant strategy– A strategy that is best for a player in a game
regardless of the strategies chosen by the other players
Pay-off Table quantifies the value of each outcome in game theory based on participant choices
Non-collusive
eStudy.usBonnie’s decision
Confess Remain silent
Clyde’sDecision
Confess
Remainsilent
Bonnie gets 8 years Bonnie gets 20 years
Bonnie goes free Bonnie gets 1 year
Clyde gets 20 years
Clyde gets 8 years
Clyde gets 1 year
Clyde goes free
Prisoners’ dilemma
In this game between two criminals suspected of committing a crime, the dominate strategy for each is to confess. Why because no matter what the other does confession is the best choice.
eStudy.usOligopolies as a prisoners’ dilemma
– In trying to reach the monopoly outcome– Firms have self-interest
• and do not cooperate even though cooperation would increase profits
• each firm has incentive to cheat to maximize profit
Example Ford and GM (1/2 ton pick-up trucks)– Differentiated oligopoly– Ford is low cost producer– Discounting vs. Free Features
Prisoners’ dilemma
eStudy.usGM Decision
Free Options No Free Options
FordDecision
Rebate
No Rebate
Ford gets $3million profit
Ford gets $4million profit
Ford gets $5million profit
Ford gets $6million profit
GM earns $4million profit
GM earns $3million profit
GM earns $6million profit
GM earns $5million profit
In the ½ ton truck market, using the above payoff table, Ford will choice to Rebate and GM to offer free options. While each could earn more by cooperating, cooperation is not a sustainable equilibrium in the ½ ton truck market.
Prisoners’ dilemma
eStudy.us• Collusion is an agreement among firms in a
market• Cartel – a group of firms acting in unison• Cartels act as a monopoly to maximize profit
– Produce monopoly quantity– Charge monopoly price– Same impacts to society
• Collusion for self-interest unlikely to work– Difficult to reach & enforce an agreement– Antitrust laws
Collusive Oligopoly
eStudy.us Economics of Cooperation
Why firms sometimes cooperate• Game of repeated prisoners’ dilemma
–Repeat the game–Agree on penalties if one cheats–Both need an incentive to cooperate
Encouraging cooperation• Penalty for not cooperating• Return to cooperative outcome after a
period of noncooperation
eStudy.useStudy.usOrganization of Petroleum Exporting Countries (OPEC)
– Formed in 1960: Iran, Iraq, Kuwait, Saudi Arabia, Venezuela– By 1973: Qatar, Indonesia, Libya, the United Arab Emirates,
Algeria, Nigeria, Ecuador, Gabon– Control about three-fourths of the world’s oil reserves– Tries to raise the price of its product
Via a coordinated reduction in quantity produced
Cheating Problem: Each member of the cartel– Tempted to increase its production– Get a larger share of the total profit– Cheat on agreement
Collision Example
eStudy.useStudy.us• OPEC was successful at maintaining cooperation
and high prices from 1973 to 1985: increase in price
• Mid-1980s - member countries began arguing about production levels– OPEC became ineffective at maintaining cooperation– Decrease in price
• 2007 to 2008 – significant increase in price primarily caused by increased world demand
Booming World economy
Collision Example
eStudy.usRestraint of trade and the antitrust laws
– The Sherman Antitrust Act, 1890Elevated agreements among oligopolists from an unenforceable contract to a criminal conspiracy
– The Clayton Act, 1914Further strengthened the antitrust laws
– The Federal Trade Commission Act, 1914• Created the Federal Trade Commission (FTC)• Can prevent mergers that impede competition• Can prevent oligopolists from colluding
Public Policy
eStudy.useStudy.us
Robert Crandall – president of American AirlinesHoward Putnam – president of Braniff Airways
• CRANDALL: I think it’s dumb as hell . . . to sit here and pound the @#$% out of each other and neither one of us making a #$%& dime.
• PUTNAM: Do you have a suggestion for me?• CRANDALL: Yes, I have a suggestion for you. Raise your $%*& fares 20
percent. I’ll raise mine the next morning.• PUTNAM: Robert, we . . .• CRANDALL: You’ll make more money, and I will, too.• PUTNAM: We can’t talk about pricing!• CRANDALL: Oh @#$%, Howard. We can talk about any &*#@ thing we
want to talk about.
An illegal phone call – Collusion Example
Public Policy
eStudy.us
• Require retailers to charge customers a given price
• Might seem anticompetitive– Prevents the retailers from competing on price
• Defenders:– Not aimed at reducing competition– Legitimate goal
• Some retailers offer service
Public PolicyResale price maintenance (fair trade)
eStudy.us
• Charge prices that are too low– Anticompetitive because price cuts are
intended to drive other firms out of the market
• Skeptics– Predatory pricing (not a profitable strategy)– Price war (to drive out a rival)– Pricing below cost
Public PolicyPredatory pricing
eStudy.usTying
Public Policy
• Offer two goods together at a single price– Expands market power
• Skeptics– Cannot increase market power by binding
two goods together• Form of price discrimination
– Tying may increase profit
eStudy.useStudy.usU.S. government case against Microsoft • Central issue: tying
Should Microsoft be allowed to integrate its Internet browser into its Windows operating system
• The government’s claim:– Microsoft was bundling to expand market power into the
market of Internet browsers– Would deter other software companies from entering the
market and offering new products
Public Policy Example
eStudy.useStudy.usMicrosoft responded
– New features into old products - natural part of technological progress
• Cars - include CD players, air conditioners• Cameras - built-in flashes• Operating systems - added many features to Windows
– Previously stand-alone products– Computers - more reliable and easier to use
– Integration of Internet technology,• The next natural next step
Microsoft Case
eStudy.useStudy.usDisagreement about the extent of Microsoft’s market power• The government
– More than 80% of new personal computers• Use a Microsoft operating system• Substantial monopoly power
• Microsoft– Software market is always changing– Competitors: Apple Mac & Linux operating systems– Low price illustrates limited market power
Microsoft Case
eStudy.useStudy.us• November 1999 ruling
Microsoft illegally abused market power
• June 2000Ruling to break Microsoft into two companies
Operating system & Applications software
• 2001 appealOverturned the breakup order
• September 2001Justice Department - wanted to settle the case quickly
• November 2002 settlementMicrosoft accepted some restrictions and the browser remains part of the Windows operating system
Microsoft Case