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Chapter 11

Chapter 11. MICROECONOMICS FINANCIAL CRISIS UPDATED EDITION. Between Monopoly and Competition. TAYLOR l WEERAPANA. Product Differentiation, Monopolistic Competition, and Oligopoly.

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Chapter 11

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  1. Chapter 11 MICROECONOMICS FINANCIAL CRISIS UPDATED EDITION Between Monopoly and Competition TAYLOR l WEERAPANA

  2. Product Differentiation, Monopolistic Competition, and Oligopoly • Monopolistic competition: a market structure characterized by many firms selling differentiated products in an industry in which there is free entry and exit. • Page 298

  3. Product Differentiation, Monopolistic Competition, and Oligopoly • Example: • Household cleaning products: until the mid-2000’s, all cleaning products were almost the same • Now, people are more concerned about how natural the cleaning products are.

  4. Product Differentiation, Monopolistic Competition, and Oligopoly • Example: • Household cleaning products: • This led to a new monopolistically competitive market: natural cleaning products

  5. Product Differentiation, Monopolistic Competition, and Oligopoly • Oligopoly: a market structure characterized by a few firms selling the same product with limited entry of other firms.

  6. Four Types of Industries • Four Different Types of Market Structure: • Competition • Monopolistic competition • Oligopoly • Monopoly

  7. Figure 1: Four Types of Industries

  8. Product Differentiation Product differentiation: the effort by firms to produce goods that are slightly different from other types of goods. Homogeneous products: goods that have no product differentiation; goods that are exactly the same.

  9. Number of Brand of Mineral Water in Selected Countries: USA (179 Brands) United Kingdom (152 Brands) Japan (16 Brands) Canada (89 Brands) Mexico (16 Brands) Germany (490 Brands) Mineral Water Around the World Source: Mineralwaters.org

  10. A. L. Lee Corporation Natural Spring Water Aarp West Virginia Abita Springs Absopure Distilled Water Absopure Drinking Water Absopure Natural Spring Water Admiral Dewey Distilled Water Admiral Dewey Drinking Water Adobe Springs Alaska Chill Alaska Glacier Cap Albion Water Alcatraz Mineral Water Around the World Brand of Mineral Water in U.S. (A = First Letter) • Alhambra • Alps Water • Amelia Springs Water • Angel Fire • Apani • Appalachian Springs Water • AquOForce • Aquamantra • Arbutus • Arctic Mist • Arrowhead • Artesia • Av-02 • Avita Source: Mineralwaters.org

  11. Puzzles Explainedby Product Differentiation • Intraindustry trade: trade between countries in goods from the same or similar industries. (For example, the U.S. buys Toyotas from Japan, and sells Ford cars to Japan.) • Interindustry trade: trade between countries in goods from the different industries. (For example, the U.S. buys clothes from China, and sells airplanes to China.)

  12. Advertising • Product differentiation leads to advertising. If a firm has a new differentiated product, then the only way for it to let everyone know more about the product is through advertising. • Pepsi: • http://v.youku.com/v_show/id_XMTk3MTA2ODky.html • Coke: • http://v.youku.com/v_show/id_XOTc0NTI4ODQ=.html

  13. How are Products Differentiated? Ways to differentiate products: 1) Physical characteristics Altering the products physical characteristics, such as making the legroom in a car longer or making a knife sharper. 2) Location A McDonald’s restaurant 10 miles away has the same menu and the same product as the one down the street. However, it is more likely for you to buy from the nearer restaurant.

  14. How are Products Differentiated? • 3) Time • a flight from Los Angeles to New York that leaves at 10 a.m. is a different product as one that leaves at 6 p.m; a 24 hour supermarket offers a different service from another that isn’t. 4) Convenience: yogurt in a tube, single serving microwaveable soups, etc., offers more convenience to the ever busy individual.

  15. The Optimal Amountof Product Differentiation • The optimal (最佳) amount of product differentiation is found by comparing the additional revenue from product differentiation with the additional cost of product differentiation. • A firm will choose to increase the amount of product differentiation until the point where the additional revenue from differentiation equals the additional cost.

  16. Figure 2: A Firm’s Decisionabout Product Differentiation

  17. Monopolistic Competition Monopolistic competition: a market structure characterized by many firms selling differentiated products in an industry in which there is free entry and exit.

  18. A Typical Monopolistic Competitor • Since monopolistically competitive firms sell a differentiated product, their demand curves slope downward, similar to a monopoly. Profits can be positive or negative in the short run.

  19. A Typical Monopolistic Competitor • However, unlike a monopoly, the monopolistically competitive firm faces competition, as other firms are free to enter and exit the industry. Profits for a monopolistically competitive firm in the long run are zero.

  20. Figure 3(a): Monopolistic Competition

  21. Figure 3(b): Monopolistic Competition

  22. Figure 3(c): Monopolistic Competition

  23. A Typical Monopolistic Competitor • Similarities between a monopolistically competitive firm and a monopoly: Both face downward-sloping demand curves. Profit maximization requires that quantity be determined by the intersection of MR and MC. Profits of both firms can be positive and negative in the short run.

  24. A Typical Monopolistic Competitor • Differences between a monopolistically competitive firm and a monopoly: The demand curve faced by the monopolistically competitive firm is not the market demand curve. In the long run, free entry and exit will cause a monopolistically competitive firm to earn zero (economic) profits.

  25. The Long-Run Monopolistically Competitive Equilibrium • Two differences between a competitive and a monopolistically competitive firm in the long run: Price is greater than marginal cost in a monopolistically competitive firm. The monopolistically competitive firm could lower excess cost and eliminate excess capacity if it increased production.

  26. The Long-Run Monopolistically Competitive Equilibrium • Excess costs: costs of production that are higher than the minimum average total cost. • Excess capacity: a situation in which a firm produces below the level that gives the minimum average total cost (minimum efficient scale).

  27. Summary:

  28. Oligopoly Oligopoly: a market structure characterized by few firms selling the same product with limited entry of other firms. Like a Monopoly, but with more than one company. Example is China’s oil companies: China National Petroleum Corp., PetroChina or CNPC China Petroleum & Chemical Corp., or Sinopec China National Offshore Oil Corp., or CNOOC

  29. Oligopoly Strategic (战略) behavior: firm behavior that takes into account the market power and reactions of other firms in the industry.

  30. An Overview of Game Theory • Game theory: a branch of applied mathematics (数学) that studies games of strategy (战略). It assumes that people try to maximize their payoff (利益) • Prisoner’s dilemma (困境): a game in which individual incentives lead to a non-optimal (or non-cooperative) (非合作) outcome. If players can cooperate, then they achieve the best (cooperative) outcome.

  31. An Overview of Game Theory • Payoff matrix: a table that contains the strategies and payoffs for two players in a game.

  32. Figure 5: Two PrisonersFacing a Prisoner’s Dilemma • Numbers = years in prison

  33. An Overview of Game Theory • Cooperative outcome: an equilibrium where the players agree to cooperate. (Both prisoners stay silent) • Noncooperative outcome: an equilibrium where the players cannot agree to cooperate and instead follow individual incentives. (Both prisoners confess)

  34. An Overview of Game Theory • In the payoff matrix, notice that being silent (the cooperative outcome) will equal less collective jail time than confessing (the non-cooperative outcome). • Unfortunately, Bonnie and Clyde both confess which means they face 5 years in jail instead of 3 years in jail.

  35. An Overview of Game Theory • Nash equilibrium: a set of strategies in which no player would like to deviate unilaterally (单方面) meaning it does not increase a player’s payoff to change strategies while the other players keep their strategy the same; named after mathematician and Nobel laureate in economics John Nash.

  36. Applying Game Theory to Oligopolies • Competition in Prices vs. Competition in Quantities • Cournot competition (named after French economist Augustin Cournot) is competition in quantities. • This means that firms compete by choosing what quantity to produce based on the other firm’s production decision • Boeing vs. Airbus

  37. Applying Game Theory to Oligopolies • Competition in Prices vs. Competition in Quantities • Bertrand competition (named after Joseph Louis Francois Bertrand, a French mathematician) is competition in prices.

  38. Collusion • Explicit collusion (共谋 ): open cooperation of firms to make mutually beneficial pricing or production decisions.

  39. Collusion • Cartel (卡特尔 ) : a group of producers in the same industry who coordinate pricing and production decisions. • Example: OPEC (Organization of Petroleum Exporting Countries)

  40. OPEC’s Members: Iran** 伊朗 Iraq** 伊拉克 Kuwait** 科威特 Saudi Arabia** 沙特阿拉伯 Venezuela** 委内瑞拉 Qatar (1961)* 卡塔尔 Indonesia (1962) 印尼 Socialist Peoples Libyan Arab Jamahiriya (1962) 利比亚 United Arab Emirates (1967) 阿拉伯联合酋长国 Algeria (1969) 阿尔及利亚 Nigeria (1971) 尼日利亚 Ecuador (1973–1992) 厄瓜多尔 Gabon (1975–1994) 加蓬 Angola (2007) 安哥拉 * Parentheses indicate the year of membership. ** Founding Member

  41. Collusion • Tacit collusion (默 共谋 ): implicit or unstated cooperation of firms to make mutually beneficial pricing and production decisions. The dominant • (主导) firm in a tacit collusion is the price leader. • Price leader: the price setting firm in a collusive industry in which other firms follow the leader.

  42. Incentives to Cooperate:Repeated Games • Secret Defections (叛逃) on an agreement will depend on the likelihood of detection (发现). • Example: • OPEC member nations may choose not to honor the agreed upon quota (配额) if the member can secretly sell oil to other countries. By secretly defecting (叛逃), its profits will increase at the expense of the profits of the other member nations.

  43. monopolistic competition oligopoly product differentiation intraindustry trade interindustry trade excess costs excess capacity strategic behavior game theory prisoner’s dilemma payoff matrix cooperative outcome noncooperative outcome Nash equilibrium explicit collusion cartel tacit collusion price leader

  44. Homework • Problem 9

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