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ECON101 EXAM 3 UDEL
Micro Chapters 10, 11, 13, and 14
Terms in this set (163)
The characteristics of an industry that define the likely behavior and performance of its firms
Primary Characteristics: The number of firms in the industry, whether they are selling a differentiated product, the ease of entry, and how much control firms have over output prices
Most Commonly Discussed: Pure competition, Monopolistic competition, Pure Monopoly, Oligopoly, and Monopsony
Pure (Perfect) Competition:
A market structure in which a very large number of firms sells a standardized product, in which entry is very easy, in which the individual seller has no control over the product price. and in which there is no non-price competition
A market characterized by a very large number of buyers and sellers
A market structure in which one firm sells a unique product, into which entry is blocked, in which the single firm has considerable control over product price, and in which non-price competition may or may not be found
A market structure in which many firms sell a differentiated product, entry is relatively easy, each firm has some control over its product price, and there is considerable non-price competition
A market structure in which a few firms sell a standardized or differentiated product, into which entry is difficult, in which the firm has limited control over product price because of mutual interdependence (except when there is collusion among firms), and in which there is typically non-price competition
All market structures except pure competition
Includes: Monopoly, Monopolistic Competition, and Oligopoly
A seller (or buyer) that is unable to affect the price at which a product or resource sells by changing the amount it sells (or buys)
Average Revenue (AR)
Total Revenue from the sale of a product divided by the quantity of the product sold (demanded)
= TR / Quantity Sold
Equal to the price at which the product is sold when all units of the product are sold at the same price
Total Revenue (TR)
The total number of dollars received by a firm(s) from the sale of a product
Equal to the total expenditures for the product produced by the firm(s)
Equal to the quantity sold (demanded) multiplied by the price at which it is sold
= Product Price/Average Revenue (P) x Quantity Demanded (Q)
Marginal Revenue (MR)
The change in total revenue that results from the sale of one additional unit of a firm's product
Equal to the change in total revenue divided by the change in the quantity of the product sold
= Change in TR / Change in Q Sold
An output at which a firm makes a normal profit (total revenue = total cost) but not an economic profit
MC = MR Rule
The principle that a firm will maximize its profit (or minimize its losses) by producing the output at which marginal revenue and marginal cost are equal, provided product price is equal to or greater than average variable cost
Short-Run Supply Curve
A supply curve that shows the quantity of a product a firm in a purely competitive industry will offer to sell at various prices in the short run
The portion of the firm's short-run marginal cost curve that lies above its average variable cost curve
Fallacy of Composition
The false notion that what is true for the individual (or part) is necessarily true for the group (or whole)
A schedule or curve showing the prices at which a purely competitive industry will make various quantities of the product available in the long run
An industry in which the entry and exit of firms have no effect on the prices firms in the industry must pay for resources, and thus no effect on production costs
An industry in which expansion through the entry of new firms raises the prices firms in the industry must pay for resources and therefore increases their production costs
An industry in which expansion through the entry of firms lowers the prices that firms in the industry must pay for resources and therefore decreases their production costs
The production of a good in the least costly way
Occurs when production takes place at the output level at which per-unit production costs are minimized
The appointment of resources among firms and industries to obtain the production of products most wanted by society (consumers)
The output of each product at which its marginal cost and price or marginal benefit are equal, and at which the sum of consumer surplus and producer surplus is maximized
The difference between the max. price a consumer is willing to pay for an additional unit of a product and its market price
The triangular area below the demand curve and above the market price
The difference between the actual price a producer receives and the minimum acceptable price
The triangular area above the supply curve and below the market price
The hypothesis that the creation of new products and production methods destroys the market power of existing monopolies
A strategy in which one firm's product is distinguished from competing products by means of design, related services, quality, location, or other attributes (except price)
Competition based on distinguishing one's product by means of product differentiation and then advertising the distinguished product to consumers
Four-Firm Concentration Ratio
The percentage of total industry sales accounted for by the top four firms in an industry
= Output of Four Largest Firms / Total Output in the Industry
A measure of the concentration and competitiveness of an industry
Calculated as the sum of the squared percentage market shares of the individual firms in the industry
Plant resources that are under used when imperfectly competitive firms produce less output than that associated with achieving minimum average total cost
An oligopoly in which the firms produce a standardized product
An oligopoly in which firms produce a differentiated product
Self-interested economic actions that take into account the expected reactions of others
A situation in which a change in price strategy (or in some other strategy) by one firm will affect the sales and profits of another firm(s)
Any firm that makes such a change can expect its rivals to react to the change
The competition for sales between the products of one industry and the products of another industry
The competition that domestic firms encounter from the products and services of foreign producers
The study of how people behave in strategic situations in which individuals must take into account not only their own possible actions but also the possible reactions of others
Originally developed to analyze the best ways to play games like poker and chess
A famous game analyzed in game theory in which two plays who could have reached a mutually beneficial outcome through cooperation will instead end up at a mutually inferior outcome as they pursue their own respective interests (instead of cooperating)
Helps to explain why collusion can be difficult for oligopoly firms to achieve and maintain
A situation in which firms act together and in agreement to fix prices, divide a market, or otherwise restrict competition
A demand curve that has a flatter slope above the current price than below the current price
Applies to a non-collusive oligopoly firm if its rivals will match any price decrease but ignore any price increase
Successive, competitive, and continued decreases in the prices charged by firms in an oligopolistic industry
At each stage, one firm lowers its price below the rivals' price, hoping to increase its sales and revenues at its rivals' expense
This ends when the price decreases cease
A formal agreement among firms (or countries) in an industry to set the price of a product and establish the outputs of the individual firms (or countries) or to divide the market for the product geographically
An informal method that firms in an oligopoly may employ to set the price of their product: One firm (leader) is the first to announce a change in price and the other firms (followers) soon announce identical or similar changes
A strategic interaction (game) between 2 or more parties (players) that all parties know will take place only once
A strategic interaction (game) between 2 or more parties in which every player moves (makes a decision) at the same time
In game theory, a game in which the gains (+) and losses (-) add up to more than zero
One party's gains exceed the other party's losses
A strategic interaction between 2 or more parties in which the winners' gains exceed the losers' losses so that the gains and losses sum to something positive
In game theory, a game in which the gains (+) and losses (-) add up to zero
One party's gain equals the other party's loss
A strategic interaction between 2 or more platers in which the winners' gains exactly offset the losers' losses so that the gains and losses sum to zero
In game theory, a game in which the gains (+) and losses (-) add up to some amount less than zero
One party's losses exceed the other party's gains
A strategic interaction between 2 or more players in which the winners' gains are less than the losers' losses so that the gains and losses sum to a negative number
In a strategic interaction (game) between 2 or more players, a course of action (strategy) that a player will wish to undertake no matter what the other players choose to do
The situation that occurs in some simultaneous games wherein every player is playing his or her dominant strategy at the same time and thus, no player has any reason to change behavior
In a sequential game with two players, a statement made by player 1 that truthfully threatens a penalizing action against player 2 if player 2 does something that player 1 does not want player 2 to do
In a sequential game with two players, a non-credible statement made by player 1 that threatens penalizing action against player 2 if player 2 does something that player 1 does not want player 2 to do
A strategic interaction between 2 or more parties that all parties know will take place repeatedly
A strategic interaction (game) between 2 or more players in which each player moves (makes a decision) in a predetermined order (sequence)
In game theory, the benefit obtained by the party that moves first in a sequential game
A situation that occurs in a sequential game if the player who gets to move first has an advantage in terms of final outcomes over the player(s) who move subsequently
In a __________ industry, a large number of firms produce a standardized product, and there are no significant barriers to entry
The demand experienced by a purely competitive firms is ___________ at the market price (graphs horizontally)
Marginal revenue and average revenue for a _______ firm coincide with the firm's demand curve
________ rises by the product price for each additional unit sold for a purely competitive firm
A firm will choose to produce if it can at least break-even and generate a _________
Profit is maximized (loss minimized) at the output at which ____________, provided that the price exceeds variable cost at that level of output
MR (or P in Pure Competition) = MC
If the market price is below the minimum average variable cost, the firm will minimize its losses by _________
A competitive firm's ___________ is the portion of its marginal cost (MC) curve that lies above its average variable cost (AVC) curve
Short-Run Supply Curve
If Price (P) is greater than minimum average variable cost, the firm will produce the amount of output where _________ in order to either maximize profits (if P > Minimum ATC) or minimize its loss (If P is between Minimum AVC and Minimum ATC)
MR ( = P) = MC
_______ in a competitive industry is the horizontal sum of the individual supply curves of all the firms in the industry
The market _________ is determined where the industry's market supply curve intersects the industry's market demand curve
In pure competition, entrepreneurs will remove resources from industries/firms that are generating economic _______ and transfer them to industries/firms that are generating economic _________
In the long-run, the entry of firms into an industry will compete away an economic profits and the exit of firms will eliminate economic losses, so ______ and _______ cost are equal
Minimum Average Total Cost (ATC)
The long-run supply curves of constant-cost industries are ________
The long-run supply curves of increasing-cost industries are ________
The long-run supply curves of decreasing-cost industries are ________
In purely competitive industries with free entry and exit of firms, each firm will end up with a zero economic profit, producing where ____________. The industry as a whole will produce the socially optimal level of output where _________
Individual Firms: P = Minimum ATC
Industry: P = MC
When a purely competitive industry reaches _________, the market price (P) will equal MC and minimum ATC
Intense competition creates successful new businesses that displace incumbent firms and reallocate resources through a never ending process called ________
_________ involves a relatively large number of firms operating in a non-collusive way and producing differentiated products with easy industry entry and exit
In the short-run, a monopolistic competitor will maximize profit/minimize losses by producing the level of output at which _______
MR = MC
In the long-run, easy entry and exit of firms cause monopolistic competitors to earn only a ___________
A monopolistic competitor's _______________ is such that price exceeds minimum ATC (implying consumers do not get lowest price) and price exceeds MC (indicating resources are under allocated to the product)
Long-run equilibrium output
The __________ associated with monopolistic competition is greatly muted by the benefits consumers receive from product variety
Efficiency Loss/ Deadweight Loss
An _________ is composed of relatively few firms producing either homogeneous or differentiated products and these firms are mutually interdependent
Economies of scale, control of patents or strategic resources, and the ability to engage in retaliatory pricing are __________ in Oligopoly
Barriers to Entry
________ may result from internal growth of firms, mergers, or both
__________ reveals that oligopolies are mutually interdependent, collusion enhances profits, and that there is a temptation for cheating on a collusive agreement
In the _________ theory of oligopoly, price is relatively inflexible because a firm contemplating a price change assumes that its rivals will follow a price cut and ignore a price increase
_______ agree on production limits and set a common price to maximize the joint profit of their members as if each were subsidiary of a single pure monopoly
Collusion among oligopolists is difficult because of (A) _____, (B) ______, (C)_______, (D) ______, (E)_______, and (F) _________
(A) Demand and cost differences among sellers
(B) The complexity of output coordination among producers
(C) The potential for cheating
(D) A tendency for agreements to break down during recessions
(E) The potential entry of new firms
(F) Anti Trust Laws
____________ involves an informal understanding among oligopolists to match any price change initiated by a designated firm (often the industry's dominant firm)
Oligopolists emphasize __________ because advertising and product variations are harder to match than price changes, and oligopolists frequently have ample resources to fund this
__________ can help reduce monopoly power by presenting consumers with useful info about existing products and by helping introduce new products
A _________ for a firm in a two-firm game is a strategy that leads to better outcomes for the firm no matter what the other firm does
A _______ occurs when both firms are simultaneously playing dominant strategies, so that neither firm has any incentive to alter its behavior
______ can improve outcomes in repeated games
The demand curve (D) of a purely competitive firm is __________ because a firm can sell as much output as it wants at the market price
Horizontal Line (perfectly elastic)
Because each additional unit sold increases TR by the amount of the price, the purely competitive firm's __________ curve is a straight, upward-sloping line
Total Revenue (TR) curve
A purely competitive firm's _________ curves coincides with the demand curve
(MR) Marginal Revenue and (AR) Average Revenue
In a TR-TC approach to profit maximization for a purely competitive firm, the firm's profit is maximized at that output where ____________ by the maximum amount
TR exceeds total cost (TC)
The vertical distance between TR and TC in a profit-maximizing case for a purely competitive firm is plotted as a _________ curve
In the short-run profit maximization for a purely competitive firm, the MR = MC output level enables the firm to _________
Maximize Profits and Minimize Losses
At the output level where MR (=P) = MC in the short run for a purely competitive firm, P _________ the ATC so the firm realizes an economic profit of P - A per unit
In the case of short-run profit-maximization for a purely competitive firm, in the graph the ________ is represented by the green rectangle and is Q x (P - A)
Total Economic Profit
In the graph of the short-run (profit-maximization) for a purely competitive firm, the MR curve is horizontal because the firm is a _____________
In the graph of the short run for a purely competitive firm, if price (P) exceeds the minimum AVC, but is LESS THAN ATC, the _____________ output will permit the firm to minimize its losses
In the short run of a purely competitive firm, if price (P) falls below the minimum AVC, the firm will minimize its losses in the short run by _______
In a _________ case in the short run of a purely competitive firm, there is no level of output at which the firm can produce and incur a loss smaller than its fixed cost.
Application of the P = MC rule, as modified by the shutdown case, reveals that the (solid) segment of the competitive firm's short-run MC curve that lies above AVC is the firm's
Short-run Supply Curve
In terms of determining output in pure competition in the short run, the firm should produce if __________. This means that the firm is profitable or that its losses are LESS THAN its fixed cost
-(P) is equal to/greater than minimum (AVC)
In terms of determining output in pure competition in the short run, the quantity the firm should produce is where ___________, in which the profit is maximized (TR > TC by a max. amount) or loss is minimized
MR (=P) = MC
In terms of determining output in pure competition in the short run, production will result in economic profit if ___________
Price (P) exceeds ATC (so that TR > TC)
In terms of determining output in pure competition in the short run, production will NOT result in economic profit if ___________
ATC exceeds Price (so that TC > TR)
In terms of long-run equilibrium, a favorable shift in demand will upset the original industry equilibrium and produce economic __________.
In terms of long-run equilibrium, a favorable shift in demand producing economic profits will entice new firms to enter industry, increasing supply, and lowering product price until __________
Economic profits are zero
In terms of long-run equilibrium, an unfavorable shift in demand will upset the original industry equilibrium and produce _______
In terms of long-run equilibrium, an unfavorable shift in demand producing losses will cause firms to leave the industry, decrease supply, and increase the product price until
All losses have disappeared
In the long run of a ________ industry, the entry and exit of firms do not affect resource prices or therefore, unit costs
In the long run of a constant-cost industry, _______ raises industry output but not price, making the long-run industry supply curve horizontal
Increase in demand
In the long run of a constant-cost industry, _________ reduces output but not price, making the long-run industry supply curve horizontal
Decrease in demand
In the long run of an _________ industry, the entry of new firms in response to an increase in demand will bid up resource prices, which increases unit costs
In the long-run of an increasing-cost industry, the increase of resource and unit costs results in an increased _________, only forthcoming at higher prices
In the long run, the equality of a competitive firm/market's (P), (MC), and minimum (ATC) at the output Qf indicates a firm is achieving ____________, using the most efficient technology, charging the lowest price, and producing the greatest output consistent with its costs, receiving only a normal profit
Productive and Allocative Efficiency
In terms of long-run equilibrium of a competitive industry/firm, the equality of _______ indicates that society allocated its scarce resources in accordance with consumer preferences
MC = P
In the long run of a purely competitive market, ________ occurs at the market equilibrium output Qe, and the sum of consumer surplus and producer surplus is maximized
In the long run, we know a purely competitive firm is a price taker because its ________ curve is horizontal
At a purely competitive firm's profit-maximizing output in the long run, ____________
TR = TC
In the long run of a competitive firm/market, the equality of P, MC, and Minimum ATC means that the _________ are being produced in the "right ways"
In the long run, when P = MC = Lowest ATC for individual competitive firms, in the market __________ is at a maximum
Consumer Surplus + Producer Surplus
The monopolistic competitor maximizes profit/ minimizes loss by producing output at which _______
MC = MR
When the price (P) settles and equals ATC at MC = MR output, the monopolistic competitor earns only a normal profit and the industry is in ____________
In long-run equilibrium, a monopolistic competitor achieves neither ___________
Productive or Allocative efficiency
In long-run equilibrium, a monopolistic competitor doesn't achieve _______ efficiency because production occurs where the ATC exceeds the minimum ATC
In long-run equilibrium, a monopolistic competitor doesn't achieve _______ efficiency because the product price exceeds the MC
In long equilibrium, a monopolistic competitor not achieving productive or allocative efficiency results in ___________ of resources, _________ loss, and _________ at every firm in the industry
Under allocation of resources
Excess Production Capacity
The slope of a _________ demand and MR curve depends on whether its rivals match or ignore any price changes that it may initiate from the current price
Oligopolist's rivals are more likely to ignore a ______ but follow a _______, which causes the demand curve to be kinked and the MR curve to have a vertical break/gap
Since any shift in an oligopolist's MCs will intersect the vertical (dashed) segment of the MR curve, no change in __________ will result from such a shift.
Price or Output
By matching a price cut, an oligopolistic firm's rival can maintain ________
their market shares
If oligopolistic firms face identical or highly similar demand and cost conditions, they may __________to limit their joint output and to set a single common price
A perfectly competitive firm that makes car batteries has total fixed costs of $10,000 a month. The market price at which it can sell its output is $100 per battery. The firm's minimum AVC is $105 per battery. The firm is currently producing 500 batteries per month (output level where MC=MR). This firm is making a ____________(profit/loss) and should (shutdown/increase)__________ production
It is making a loss because the market price is less than the minimum AVC, implying its revenue per battery is not high enough to cover the variable cost of its output. The firm also has $10,000 in fixed costs. So, if the firm produces the output, it will fail to cover the variable cost and fixed cost of production.
The firm should shutdown and produce nothing because it will minimize the size of its loss. By shutting down, it will only lose $10,000 a month (value of its fixed cost).
In long-run equilibrium, P = minimum ATC = MC. Of what significance for economic efficiency is the equality of P and minimum ATC?
Equality of P and Minimum ATC means the firm is achieving productive efficiency or using the most efficient technology and employing the least costly combo of resources
In long-run equilibrium, P = minimum ATC = MC. Of what significance for economic efficiency is the equality of P and MC?
Equality of P and MC means the firm is achieving allocative efficiency, in which the industry is producing the right product in the right amount based on society's valuation of that product and other products
When discussing pure competition, the term "long run" refers to a period of time long enough to allow firms already in the industry to _____ or _____ their capacities and for new firms to _______ or existing firms to ________
Suppose the pen-making industry is perfectly competitive. Suppose that all current firms and any potential firms that might enter industry have identical cost curves, with minimum ATC = $1.25 per pen. If the market equilibrium price of pens is currently $1.50, what would you expect the equilibrium price to be in the long run?
Long run equilibrium price of pens will equal the minimum ATC of $1.25 per pen
Which best describes the efficiency of monopolistically competitive firms?
Neither allocatively efficient or productively efficient
Which of the following apply to oligopoly industries?
- A few large producers
- Many small producers
- Strategic behavior
- Price taking
- A few large producers
- Strategic behavior
Facepalm, Instarant, and Snapchat are rival firms in an oligopoly industry. If kinked-demand theory applies to these (3) firms, Facepalm's demand curve will be:
More elastic above the current price than below it
True or False: Potential rivals may be more likely to collude if they view themselves as playing a repeated game rather than a one-time game
Potential rivals will be more likely is playing a repeated game because repeated games allow firms to engage in reciprocity. In particular, firms can take turns in doing nothing to interfere as the other firm pursues a highly profitable business venture. Then, in the next period, the firms switch roles, and the other firm now pursues a highly profitable business venture. This mutually beneficial alternation is only possible if firms believe they are playing a repeated game which gives them more confidence they will both follow through with the plan.
What are the basic characteristic of pure competition, monopolistic competition, and oligopoly?
Pure Competition: Very large # of firms; Standardized products; No control over price - Price takers; No obstacles to entry; No non-price competition
Monopolistic Competition: Many firms; Differentiated products; Some control over price in a narrow range; Relatively easy entry; Much non-price competition - advertising, trademarks, brand names
Oligopoly: Few firms; Standardized or differentiated products; Control over price circumscribed by mutual interdependence - much collusion; Many obstacles to entry; Much non-price competition, particularly product differentiation
If pure competition is relatively rare, why do we study it?
It results in low-cost production (production efficiency - through long run equilibrium occurring where P = minimum ATC) and allocative efficiency (through long run equilibrium occurring where P = MC)
Consider a firm that has no fixed costs and that is currently losing money. Are there any situations where it would want to stay open for business in the short run?
No, the firm will want to shut down because the firm is losing money. Since there are no fixed costs and only variable costs, revenue must be less than total variable cost or price is less than AVC (shut-down rule). In other words the firm can shut down and lose nothing because of there being no fixed costs.
Consider a firm that has no fixed costs. Is it sensible to speak of the firm's distinguishing between the short run and the long run?
In a more general sense, a firm with no fixed costs is really in the long run. By definition, the short run implies there are fixed cost present that the firm cannot cover paying either implicitly or explicitly. The long run implies all factors and costs can adjust to the economy
Why is the equality of MR and MC essential for profit maximization in all market structures?
If the last unit produced adds more to costs than to revenue, its production must necessarily reduce profits (or increase losses). Profits must increase (losses decrease) so long as the last unit produced (the marginal unit) is adding more to revenue than to costs. Thus, as long as MR is greater than MC, the production of one more marginal unit must be adding to profits/decreasing losses (provided price is not less than minimum AVC).
When MC = MR, the production of the last unit will neither add nor reduce profits.
Why can price be substituted for MR in the MR=MC Rule when an industry is purely competitive?
In pure competition, the demand curve is perfectly elastic; price is constant regardless of quantity demanded. Thus, MR is equal to P and which is why P can be substituted for MR in the MC=MR rule
A purely competitive firm whose goal is to max profit will choose to produce the amount of output where:
TR exceeds TC by as much as possible
Since profit is the difference between TC and TR, the firm's profit will be maximized when TR exceeds TC by as much as possible.
If its possible for a perfectly competitive firm to do better financially by producing rather than shutting down, then it should produce the amount of output at which:
MR = MC
Consider a profit-maximizing firm in a competitive industry. If P < Minimum AVC, should the firm shut down or produce where MC=MR?
Shutdown because in this price range, the firm would always lose less money by shutting down than by producing. Shutting down would result in a loss equal to the firm's fixed cost which would be less than the loss from producing the output
Consider a profit-maximizing firm in a competitive industry. If P > Minimum ATC, should the firm shut down or produce where MC=MR?
Firm should produce where MC=MR because in this price range, the firm will max. profits by choosing to produce the amount of output where MC=MR. Since the price is higher than minimum ATC, the firm is guaranteed to make a profit. With the MC=MR rule, we will be able to determine the amount of output to produce.
Consider a profit-maximizing firm in a competitive industry. If Minimum AVC < P < Minimum ATC, should the firm shut down or produce where MC=MR?
Firm should produce where MC=MR in this price range because the firm will minimize loss by producing where MC=MR.
Since price is less than minimum ATC, the firm will be forced to make a loss. But, since price exceeds minimum AVC, the firm will not want to shut down. How much the firm should produce is answered by the MC=MR rule. In this case where the firm will be forced to take a loss, the size of that loss will be minimized by producing output at MC=MR compared to shutting down
How does the long run and short run differ in pure competition?
The entry and exit of firms in our market models can only take place in the long run. The firms already in the industry have sufficient time to expand or contract their capacities. Also, the number of firms in the industry can increase or decrease as new firms enter or existing firms exit.
In the short run, the industry is composed of a specific number of firms, each with a plant size that is fixed and unalterable. Firms can shut down in the sense they can produce zero units of output, but they do not have enough time to liquidate their assets and go out of business
How do the entry and exit of firms in a purely competitive industry affect resource flows and long-run profits and losses?
Entry and exit help to improve resource allocation because exiting firms release their resources to be used more profitably in other industries and entering firms bring resources with them that were less profitably used in other industries. Both processes increase allocative efficiency.
In the long run, the market price of a product will equal the minimum ATC of production, so long-run economic profits will be zero.
Compare the elasticity of a monopolistic competitor's demand with that of a pure competitor.
Monopolistic competitor's demand curve is less elastic than a pure competitor's
Assuming identical long-run costs, compare the prices and outputs in the long run under pure competition and under monopolistic competition. Contrast the two in terms of productive and allocative efficiency.
Price is higher and output is lower for the monopolistic competitor than for the pure competitor.
Pure Competition: P = MC (allocative efficiency); P = minimum ATC (productive efficiency)
Monopolistic Competition: P > MC (allocative inefficiency); P > Minimum ATC (productive inefficiency)
Monopolistic competitors have excess capacity meaning that fewer firms operating at capacity (P=Minimum ATC) could supply the output. Thus, there are too many firms, each producing too little output
Why do oligopolies exist?
Most commonly because of economies of scale. When these are substantial, only very large firms can produce at minimum average cost which makes it virtually impossible for new firms to enter industry. Small firms cannot produce at minimum cost and would be competed out of business; starting at the very large required scale would cost far more money. Other barriers to entry include ownership of patents and possibly, massive advertising that gives would be new-comers no chance to establish a presence in the public's mind. Finally, there is an urge to merge and mergers have the clear advantage of reducing competition (with more monopoly power) and possibly resulting in economies or scale.
What assumptions about a rival's response to price changes underlie the kinked demand curve for oligopolists? Why is there a gap in their MR curve? How does the kinked-demand curve explain price rigidity in oligopoly?
Assumptions: Rivals will match price cuts and rivals will ignore price increases
The gap in the MR curve results from the abrupt change in the slope of the demand curve at the going price.
Firms will not change their price because they fear if they do their TR and profits will fall
Why is there so much advertising in monopolistic competition and oligopoly? How does advertising help consumers and promote efficiency? How does it promote inefficiency?
Two ways for monopolistic competitive firms to maintain economic profits is through product development and advertising. Advertising will also increase demand for the firm's product.
The oligopolist can increase their market share with advertising that is financed with economic profits from past advertising campaigns. It can also act as a barrier to entry.
Advertising provides info about new products and product improvements to consumers. It may result in increased competition by promoting new products and improvements. It can also result in increased output, pushing down the firm's ATC curve and closer to productive efficiency (P=Minimum ATC)
Advertising may result in manipulation and persuasion, instead of info. An increase in brand loyalty will increase producer's monopoly power. Excessive advertising may create barriers to entry into the industry. When advertising results in either increased monopoly power or is self-canceling, economic inefficiency results.
In an oligopoly, each firm's share of the total market is typically determined by:
Product Development and Advertising
This is true because there is relatively little price competition in these industries. This leaves two major methods which would increase their market share, including development of new products or advertising to steal market share away from rivals. Oligopolists often use both aggressively
Collusive agreements can be established and maintained by:
Credible threats are made by a strong enforcer to help prevent cheating and thereby maintain discipline required for collusion to succeed in driving up prices and reducing output
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