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Oligopoly Theory (13) Competition in Q uality

Oligopoly Theory (13) Competition in Q uality. Aim of this lecture (1) To understand the conditions under which equilibrium quality level is excessive. (2) To understand the neutrality result in the quality of product. 13-1 Quality Improving Investment

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Oligopoly Theory (13) Competition in Q uality

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  1. Oligopoly Theory (13)Competition in Quality Aim of this lecture (1) To understand the conditions under which equilibrium quality level is excessive. (2) To understand the neutrality result in the quality of product.

  2. 13-1 Quality Improving Investment 13-2 Optimal Investment under Monopoly 13-3 Incentive for Quality Investment with Heterogeneous Consumers Outline of the 13th Lecture

  3. Monopoly Investment improves the quality of the product and increases the demand Profit of the monopolist: Π=P(Y,I) Y-C(I)Y Total Social Surplus:∫0YP(Y,I)dY-C(I)Y Monopolist chooses Y and I. Question : Given the quality level, equilibrium output level is (higher than, lower than, equal to) the social optimum level High Quality Induces High Production Cost

  4. Monopoly Investment improves the quality of the product and increases the demand Profit of the monopolist: Π = P(Y,I)Y - CY - I Total Social Surplus:∫0YP(Y,I)dY – CY - I Monopolist chooses Y and I. Question : Given I, equilibrium output level is (higher than, lower than, equal to) the social optimum level Quality-Improving Investments

  5. Monopoly insufficient production Ｐ Ｄ ＭＣ ＭＲ 0 Ｙ

  6. Monopoly Investment improves the quality of the product and increases the demand Profit of the monopolist: Π = P(Y,I) Y - C(I)Y Total Social Surplus:∫0YP(Y,I)dY - C(I)Y Monopolist chooses Y and I. Question : Given Y, equilibrium quality level is (higher than, lower than, equal to) the social optimum level High Quality Induces High Production Cost

  7. Monopoly Investment improves the quality of the product and increases the demand Profit of the monopolist: Π = P(Y,I)Y - CY - I Total Social Surplus:∫0YP(Y,I)dY - CY - I Monopolist chooses Y and I. Question : Given Y, equilibrium quality level is (higher than, lower than, equal to) the social optimum level Quality-Improving Investments

  8. Monopoly Investment improves the quality of the product and increases the demand Profit of the monopolist: Π=P(Y,I) Y - C(I)Y FOC: (∂P/∂I)Y - C‘Y=0 (∂P/∂I)→How the quality improvement affects the willingness to pay of the marginal consumer. Total Social Surplus:∫0YP(Y,I)dY - C(I)Y FOC: ∫0Y(∂P/∂I)dY - C‘Y=0 ∫0Y (∂P/∂I)dY/Y→ How the quality improvement affects the willingness to pay of the average consumer. High Quality Induces High Production Cost

  9. Monopoly Investment improves the quality of the product and increases the demand Profit of the monopolist: Π = P(Y,I)Y - CY - I FOC: (∂P/∂I)Y - 1=0 (∂P/∂I)→How the quality improvement affects the willingness to pay of the marginal consumer. Total Social Surplus:∫0YP(Y,I)dY – CY - I ∫0Y (∂P/∂I)dY – 1 = 0 ∫0Y (∂ P/∂I)dY/Y→ How the quality improvement affects the willingness to pay of the average consumer. Quality-Improving Investments

  10. Quality and Welfare under Monopoly The effect in the quality improvement to the willingness to pay of the marginal consumer ＜（＞） the effect in the quality improvement to the willingness to pay of the average consumer ⇒Quality is insufficient (excessive) for social welfare ~ Spence (1967)

  11. Monopoly, Linear demand Payoff Π=(a(I) -Y) Y-C(I)Y Question: The quality is (excessive, insufficient, efficient) from the viewpoint of social welfare. Question

  12. Quality-Improvement Ｐ Ｄ Ｄ’ 0 Ｙ

  13. Ｐ Quality Improvement Question: The quality is (excessive, insufficient, efficient) from the viewpoint of social welfare. Ｄ’ Ｄ 0 Ｙ

  14. Willingness to Pay ~ θq q: quality, θ:the type of consumer, the value of the quality for the consumer A consumer whose willingness to pay is higher evaluates the value of high quality more. Example of this case

  15. Quality Improvement Question: The quality is (excessive, insufficient, efficient) from the viewpoint of social welfare. Ｐ Ｄ Ｄ’ 0 Ｙ

  16. Old consumer’s willingness to pay for the specific product of the firm is high (high brand loyalty). He(She) does not care about the quality. Old consumer’s willingness to pay for the specific product of the firm is low (low brand loyalty). He(She) cares about the quality. Example of this case

  17. Improvement of durability→frequency of purchase is reduced→demand reduction ⇒The monopolist has a little incentive to improve the durability (has an incentive to produce the product that is likely broken in future)~It is not always true. The improvement of durability increases the value of the product and thus it increases the willingness to pay for the product (increases the demand). The monopolist produces the optimal quality product Swan (1970)’s neutrality result. However, this result is just a corollary of the general result of Spence Durable Goods Monopoly

  18. Swan (1970) Ｐ Ｄ Ｄ’ 0 Ｙ

  19. Ｐ Non-Neutrality of Durability Ｄ’ Ｄ 0 Ｙ

  20. Non-Neutrality of Durability Ｐ Ｄ Ｄ’ 0 Ｙ

  21. Equivalence of Quality-Improving Investments and Cost-Reducing Investment Π = (a + f(I) - Y) Y - CY - I Π = (a -Y)Y - (C - f(I))Y - I Essentially, two are same problem, either in monopoly and oligopoly. It is true even when the demand is non-linear if the quality improvement is equally evaluated by all consumers.

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