ECW2731
Weeks 7 & 8
Weeks 7 & 8
Competition, market structures
and
business decisions
Examination structure
ECW2731
Weeks 7 & 8
1. Exam duration
120 minutes writing time
2. Reading time
10 minutes
3. Total number of questions
5
4. Students must attempt all questions
5. Use of calculators is permitted
Please note, original hand written notes or
computer printouts or photocopies are not
permitted in the exam this year.
Examination structure
ECW2731
Weeks 7 & 8
Section 1. (Microeconomic theory from the Managerial
Perspective) – attempt
Q 1-4
Four theoretical questions. May include discussion of examples. Brief
answers are expected including definitions and diagrams where approporiated
and/or specifically asked for.
Section 2. (Research Question) –attempt only one question 5
or 6
5. “Discuss possible impact of the introduction of carbon emission trading
scheme in Australia on the following industries:
Electricity generation
Car manufacturing and import
Tourism and hospitality
Forestry
6. Apply question 5 to any country of your choice.
Structure
ECW2731
Weeks 7 & 8
Weeks 7-8
Competition,
market structures and
business decisions
Week 9
Pricing strategies and
practices
Week 10
Business and Government.
Weeks 5 - 6
Production and Costs
Weeks 3-4
Demand analysis
and estimation
Week 2
Basic economics principles:
demand and supply.
Managerial
Economics
Week 11
Capital budgeting
Week. 12
Research question
Business and current
economic situation.
Week1
Introduction. The nature
of managerial economic
decision making
ECW2731
Weeks 7 & 8
Competition, market structures and
business decisions
Learning objectives
What is the market Structure
How does competition affect
business decisions in different
market structures?
Perfect competition; monopoly;
oligopoly; monopolistic
competition
Competitive strategies.
Measurement of market structures
Market strategies in different
market structures.
Non-price competition.
Multinational companies. Vertical
and horizontal coordination.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Reading
Hirschey, Chapters 10, 12, 13, & 14
ECW2731
Weeks 7 & 8
Table 10.1 Characteristics of Market Types
Market
structure
Perfect
competition
Examples
Number
of
producers
Type of
product
Parts of
agriculture are
reasonably close
Many
Standardized
Monopolistic
competition
Retail trade
Many
Differentiated
Oligopoly
Computers, oil,
steel
Few
Standardized or
differentiated
Monopoly
Public utilities
One
Unique product
Power of
Barriers
firm over
to entry
price
None
Some
Some
Non-price
competition
Low
None
Low
Advertising and
product
differentiation
High
Advertising and
product
differentiation
ConsiderVery high
able
Advertising
7
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
What is the market structure?
• The competitive environment in the market for
any product is the market structure faced by the
firm
– Is measured in terms of
• the number of the actual buyers and sellers plus potential
entrants
• Barriers to entry and exit
• Capital requirements
• Price vs Non-price competition
• Etc
– Potential entrants pose a sufficiently credible threat of
entry to affect price/output decisions of incumbents
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Factors that Shape the Competitive
Environment
• Product Differentiation
– R&D, innovation, and advertising are important in
many markets.
• Production Methods
– Economies of scale can preclude small-firm size.
• Entry and Exit Conditions
– Barriers to entry and exit can shelter incumbents
from potential entrants.
• Buyer Power
– Powerful buyers can limit seller power.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
The firm in competitive markets
Perfect competition
Non-perfect competition
Monopoly
Oligopoly
Monopolistic competition
Competition, market structures and business decisions
Market structures
ECW2731
Weeks 7 & 8










“Perfect competition” – competitive markets
Profit maximiser
Identical product
Very small share of the market
Price-taker
Produces a homogeneous product
Perfect information
No barriers to entry (legal, technological, or
resource)
No technical progress
No investment lag - Immediate implementation of
production decisions)
Homogeneous goals of the owners and
managerial staff
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
“Perfect competition” – competitive markets
• Examples of Competitive Markets
– Agricultural commodities.
– Some prominent markets for intermediate goods and
services.
– Unskilled labor market.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
“Perfect competition” – competitive markets
• Profit Maximization Imperative
– Normal profit is return necessary to attract and maintain
capital investment.
– Efficient firms can earn normal profit.
– Inefficient firms suffer losses.
• Role of Marginal Analysis
– Set Mπ = MR – MC = 0 to maximize profits.
– MR=MC when profits are maximized.
ECW2731
Weeks 7 & 8
Profit maximization in a perfectly
competitive market
•
(see book)
•
P = MC
•
Marginal cost curve left of shutdown level (min. variable cost) is supply
curve
•
P = MR = MC = AC
•
Firm produces at minimum of average costs! (optimal outcome for
industry)
•
In a constant-cost industry increase in supply will lead in the long term to
constant prices (i.e. horizontal supply curve)
14
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
“Perfect competition” – competitive markets
Marginal Cost and Firm Supply
Short-run Firm Supply
– Competitive market
price (P) is shown as a
horizontal line because
P=MR.
– Firm’s marginal-cost
curve shows the amount
of output the firm would
be willing to supply at
any market price.
– Marginal cost curve is
the short-run supply
curve so long as P >
AVC .
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
“Perfect competition” – competitive markets
Long-run Firm Supply
Marginal cost
curve is the
long-run supply
curve so long
as P > ATC.
In long run, firm
must cover all
necessary costs
of production
and earn a
normal profit.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
“Perfect competition” – competitive markets
Long Run Normal Profit
Equilibrium
With a horizontal market
demand curve, MR=P.
P=MR=MC=ATC.
There are no economic
profits.
All firms earn a normal
rate of return.
Competition, market structures and business decisions
Perfect competition
Market structures
ECW2731
Weeks 7 & 8
Breakeven point
Price, cost
per unit
MC
Ppeak
D
B
Poff peak
Q peak
0
Qoff peak
Output per time period
Poff peak – break even
price off peak. At this
ATC
price the firm expects
AVC to return only variable
costs and can produce
quantity Qoff peak
Ppeak- break even price at
peak. This is when the
firm expects to return
both fixed and variable
costs producing
quantity Qpeak
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
“Perfect competition” – competitive markets
Competitive Market Supply Curve
Market Supply With a Fixed
Number of Competitors
Supply is the sum of
competitor output.
Market Supply With Entry and Exit
Entry results in more firms,
increased output, a
rightward shift in the
supply curve, and drives
down prices and profits.
Exit reduces the number of
firms, decreases the
quantity of output, shifts
the supply curve leftward,
and allows prices and
profits to rise for remaining
competitors.
Competition, market structures and business decisions
Perfect competition
Market structures
ECW2731
Weeks 7 & 8
Market price
determination
•
Negatively sloped demand
curve
•
Positively sloped supply unit ($)
10
curve
Price per
8
Supply
P= –$0.254 + $0.000025
Q
6
4
P= $40
–$0.0001
Q
2
Demand
0
50 100 150200250300350 400
Quantity per time period (millions)
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
Basic Properties
•
One firm in industry
•
Profit-maximiser
•
Faces market demand curve
•
One product
•
No close substitutes
•
Price-maker
•
No restrictions on resources
• Blockaded entry and/or exit
• Imperfect dissemination of information
• Opportunity for economic profits in long-run equilibrium.
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
• Examples of Monopoly
– Electricity utilities,
– Gas
– Water
– Public Tramsport
– Telecommunications
ECW2731
Weeks 7 & 8
Monopoly graph
23
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
Profit Maximization in Monopoly Markets
• Price/Output Decisions
• A monopoly firm is the
market.
• Market and firm demand
curve slopes downward.
• Monopoly demand curve
is always above the
marginal revenue curve,
P = AR > MR.
• Monopoly position allows
above-normal profits.
P > AC in long-run
equilibrium.
• Set Mπ = MR - MC = 0 to
maximize profits.
• MR=MC at optimal
output.
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
Social Costs of Monopoly
•
Monopoly Underproduction
Monopolists produce too
little output.
Monopolists charge prices
that are too high.
•
Deadweight Loss from
Monopoly
Monopoly markets creates
a loss in social welfare
due to the decline in
mutually beneficial trade
activity.
There is also a wealth
transfer problem
associated with
monopoly.
Under monopoly,
consumer surplus is
transferred to
producer surplus.
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
Social Benefits From Monopoly
• Economies of Scale
Monopoly is sometimes the natural result of vigorous
competitive forces.
In natural monopoly, LRAC declines continuously and one
firm is most efficient.
Some real-world monopolies are government-created or
government-maintained.
•
Invention and Innovation
Public policy sometimes confers explicit monopoly rights to
spur productivity.
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
Monopoly Regulation
• Dilemma of Natural Monopoly
Monopoly has the potential for efficiency.
Unregulated monopoly can lead to economic profits and
underproduction.
ECW3830 COMPETITION AND REGULATION
ECW2731
Weeks 7 & 8
Monopolists produce less, price higher than
firms in competitive equilibrium
MR = P(1 + 1/h)
• Situation is inefficient, insofar as the sum of
consumer and producer surplus is concerned
– What is producer and consumer surplus?
• Monopolist has to take demand conditions
explicitly into account
• Why is no other firm entering the market???
28
ECW2731
Weeks 7 & 8
Other aspects of monopoly
• “Natural monopoly” if minimum of average cost
occurs only at very high output level (minimum
efficient scale) ==> there is only place for one
firm in the market!
• Measure of monopoly power (markup of price
over cost):
P  MC
markup 
MC
29
ECW2731
Weeks 7 & 8
Sources of monopoly power
•
Natural monopoly (public utilities best example, railway tracks), economies
of scale,
•
Capital requirements on production or big sunk costs on entry
•
Patents (17 years), trade secrets (Coke)
•
Exclusive or unique assets (minerals, talent)
•
Locational advantage (popcorn shop in cinema – but in general you pay
rent for these advantages)
•
Regulation (TV, taxi, telephone in the past)
•
Collusion by competitors
30
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
Monopsony
• Buyer Power
Oligopsony exists when there are only a handful of
buyers.
Monopsony exists if there is only one buyer.
Buyer power can be used to obtain less than
competitive market prices.
ECW2731
Weeks 7 & 8
Competition, market structures and business decisions
Monopoly
Market structures
• Bilateral Monopoly
Illustration
Unrestrained
monopoly gets
higher than
competitive
market prices.
Unrestrained
monopsony gets
lower than
competitive
market prices.
Monopoly/monopso
ny confrontation
breeds
compromise.
Competition, market structures and business decisions
In the “real life”
Market structures
ECW2731
Weeks 7 & 8
A “real” firm in a market place
(compare to the “ideal” one):
•
A typical firm, if it is not a small one, is not owner-managed
•
Separation of ownership, long-term strategic and short-run
current control (shareholders, board of directors, brunch
managers) implies the segregation of objectives;
•
Natural, economic and legal barriers
•
Diversification (non-homogenous product, more than one kind of
activity)
•
Technical progress
•
Different criteria for different time horizons (short-run operation
vs long-run planning.
•
Price-making
•
Price/marketing strategies
•
Imperfect information
•
Investment lag
ECW2731
Weeks 7 & 8
Sources of monopoly power
•
Natural monopoly (public utilities best example, railway tracks), economies
of scale,
•
Capital requirements on production or big sunk costs on entry
•
Patents (17 years), trade secrets (Coke)
•
Exclusive or unique assets (minerals, talent)
•
Locational advantage (popcorn shop in cinema – but in general you pay
rent for these advantages)
•
Regulation (TV, taxi, telephone in the past)
•
Collusion by competitors
34
ECW2731
Weeks 7 & 8
What can a monopolist do?
Erect strategic entry barriers
• Excessive patenting and copyright
• Limit pricing (set price below monopoly price)
• Extensive advertising to create brand name to
raise cost of entry
• Create intentionally excess capacity as a warning
for a price war
35
ECW2731
Weeks 7 & 8
Franchising „McFood“
• A Franchiser (mother company) gets a fixed
percentage of sales,
• The franchisee is the residual claimant
• What are the incentives for the two partners?
• Other problems like number of shops in a region…
• Other examples??
36
ECW2731
Weeks 7 & 8
37
Competition, market structures and business decisions
Market structures
ECW2731
Weeks 7 & 8
Oligopoly and Monopolistic Competition
Contrast Between Monopolistic Competition
and Oligopoly
• Monopolistic Competition
• Large number of sellers that offer differentiated products.
• Normal profit opportunity in long-run equilibrium.
• Oligopoly
• Few sellers.
• Economic profits are possible in long-run equilibrium.
• Dynamic Nature of Competition
• Timely market structure information
managerial investment decisions
is
required
for
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Мonopolistic competition
• The market consists of n mono-product firms;
• The products are viewed by the buyers as close though not
perfect substitutes for one another;
• Therefore, each of the sellers is a monopolist of its particular
product variant with a limited degree of monopoly power.
• Such a monopolist is enjoying a monopoly power and making
economic profit during only a short period of time
• from the introduction of an unique product or technology
• until such a technology becomes available to rivals, or
• until a new “more innovative” product is introduced by a
rival.
Competition, market structures and business decisions
Market structures
ECW2731
Weeks 7 & 8
Мonopolistic competition
Price
Costs
MC
AC
Pmc
MR
Q
Qmc
Demand
Quantity
Short-run Monopoly Equilibrium
Monopolistically competitive firms take
full advantage of short-run monopoly.
Competition, market structures and business decisions
Market structures
ECW2731
Weeks 7 & 8
Price
Costs
MC
Мonopolistic competition
Price
Costs
AC
MC
AC
Pmc
D2
MR2
MR1
D1
D
Quantity
Entry of new firms offering
product substitutes shifts
the demand and MR curves)
MR
Qmc
Quantity
Long-run equilibrium same costs, lower demand
and excess capacity – low output high price
decision With differentiated products, P=AC at a
point above minimum LRAC.
P > MR = MC.
Competition, market structures and business decisions
Market structures
ECW2731
Weeks 7 & 8
Price
Costs
MC
AC
Мonopolistic competition
Price
Costs
MC
AC
Pm
Pacc
D2
MR2
MR1
D1
Quantity
Long-run equilibrium same costs, lower
demand and excess capacity – low
output high price decision
With differentiated products, P=AC
at a point above minimum LRAC.
P > MR = MC.
MR
Qmc Qac
D
Quantity
Long-run equilibrium– high output low price
decision (corresponds to perfect
Competition)
With homogenous products, P=AC at minimum
LRAC.
This is a competitive market equilibrium
with homogeneous production.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
• Oligopoly Market Characteristics
• Few sellers.
• Homogenous or unique products.
• Blockaded entry and exit.
• Imperfect dissemination of information.
• Opportunity for above-normal (economic) profits in long-run
equilibrium.
• Examples of Oligopoly
• National markets for aluminum, cigarettes, electrical
equipment, filmed entertainment, ready-to-eat cereals, etc.
• Local retail markets for gasoline, food, specialized services,
etc.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Cartels and Collusion
• Overt and Covert Agreements
• Cartels operate under formal agreements.
• Powerful cartels function as a monopoly.
• Collusion exists
agreements.
when
firms
reach
secret,
covert
• Enforcement Problem
• Cartels are typically rather short-lived because coordination
problems often lead to cheating.
• Cartel subversion can be extremely profitable.
• Detecting the source of secret price concessions can be
extremely difficult.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Cartels and Collusion
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Oligopoly Output-Setting Models
• Cournot Oligopoly
• Cournot
equilibrium
output is found by
simultaneously solving
output-reaction curves
for both competitors.
• Cournot
equilibrium
output
exceeds
monopoly output but is
less than competitive
output.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Stackelberg Oligopoly
• Stackelberg model posits a first-mover advantage.
• Price wars severely undermine profitability for both leading
and following firms.
• Price signaling can reduce uncertainty in oligopoly markets.
• Price leadership occurs when firms follow the industry
leader’s pricing policy.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Stackelberg Oligopoly
• Price leader sets
the price at P2
• Profit is maximised
at Q1.
• The follower(s) will
supply the
combined output of
Q4-Q1
• At P3- Follows will
supply everything
At P1 – the leader will
supply everything
at no economic
profit
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Oligopoly Price-Setting Models
• Bertrand
Oligopoly: Identical
Products
– The Bertrand
model focuses
upon the price
reactions.
– The Bertrand
model predicts a
competitive
market
price/output
solution in
oligopoly
markets with
identical
products.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Oligipoly
Oligopoly Price-Setting Models
• Bertrand
Oligopoly: Identical
Products
– The Bertrand
model focuses
upon the price
reactions.
– The Bertrand
model predicts a
competitive
market
price/output
solution in
oligopoly
markets with
identical
products.
Competition, market structures and business decisions
Market structures
ECW2731
Weeks 7 & 8
Game Theory Basics
• Types of Games
–
–
–
–
Zero-sum game: offsetting gains/losses.
Positive sum game: potential for mutual gain.
Negative-sum game: potential for mutual loss.
Cooperative games: joint action is favored.
• Role of Interdependence
– Sequential games: moves in succession.
– Simultaneous-move game: coincident moves.
• Strategic Considerations
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Game Theory Basics
Prisoner’s Dilemma
• Classic Riddle
– Rational behavior can give suboptimal result.
– Rationality can hamper beneficial cooperation.
• Business Application
– Dominant strategy gives best result regardless of moves by
other players.
– Secure strategy gives best result assuming the worst
possible scenario.
• Broad Implications
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Game Theory Basics
Nash Equilibrium
• Nash Equilibrium Concept
– Neither player can improve their payoff through a unilateral
change in strategy.
– Nash equilibrium concept is broader than the concept of a
dominant strategy equilibrium.
– Every dominant strategy equilibrium is also a Nash
equilibrium.
– Nash equilibrium can exist where there is no dominant
strategy equilibrium.
• Nash Bargaining
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Game Theory Basics
Infinitely Repeated Games
• Role of Reputation
– Infinitely repeated games occur over and over again without
boundary or limit.
– Firms receive sequential payoffs that shape current and
future strategies.
– Reputations for high quality give consumers confidence for
repeat transactions.
• Product Quality Games
– In a one-shot game, poor quality can fool customers.
– In an infinitely repeated game, poor quality is shunned by
customers.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Market structures
Game Theory Basics
Finitely Repeated Games
• Uncertain Final Period
– Finitely repeated games have limited duration.
– With end point uncertainty, a finitely repeated game mirrors
an infinitely repeated game.
• End-of-game Problem
– Enforcing end-of-game performance is difficult.
– Solution: simply extend the game!
• First-mover Advantages
– Benefits earned by the player able to make the initial move
in a sequential move or multistage game.
Competition, market structures and business decisions
Competitive strategies in Imperfectly competitive markets
ECW2731
Weeks 7 & 8



Not all industries offer the same potential
for sustained profitability;
Not all firms are equally capable of
exploring the profit potential that is
available.
An effective competitive strategy in
imperfectly competitive markets must be
founded on the firms competitive
advantage.
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8

Competitive strategies in Imperfectly competitive markets
A competitive advantage is a unique or rare ability to
create, distribute or service valued by customers.
It is a business-world analogue to what economists
call comparative advantage or when one nation or
region of the country is better suited to the
production of one product than to the production of
some other product

Above-normal rate of return require a competitive
advantage that cannot easily be copied
In production;
In distribution; or
In marketing
Competition, market structures and business decisions
Competitive strategies in Imperfectly competitive markets
ECW2731
Weeks 7 & 8

Reasons for competitive advantage:

Access to a unique resource

(Exclusive) Access to a mineral deposit

(Exclusive) Access to a material

Efficient energy source

Unique climatic condition

Unique technology


Unique (specially qualified or very talented) labour
force; or
Access to a unique market

A university bookshop

The rice market in Japan

etc
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Non-price competition.
Product differentiation
Product differentiation
refers to the increase in time of the number of
product categories suppled and the number of items
in each category

Historically, a step from oligopolistic to monopolistic
competition
Competition, market structures and business decisions
Non-price competition.
ECW2731
Weeks 7 & 8
Product differentiation
A simple model of the reason for product differentiation
• Considers constant
quantity as well as nonchanging AC and MC
corresponding to this
quantity
Price
P*
• Producing a little bit
different product a firm
might hope to charge a
higher price
P
Q
Quantity
Competition, market structures and business decisions
Non-price competition.
ECW2731
Weeks 7 & 8
Barriers to entry
Price
Absolute cost advantages:
P*
LAC*
Ability of established firms to
produce any given level of output
at lower unit costs than potential
entrants
P
LAC
Q* Q
Quantity
Competition, market structures and business decisions
Non-price competition.
ECW2731
Weeks 7 & 8
Barriers to entry
Economies of scale:
Ability of established firms
Price
* To produce any given level of output
greater than a certain level Q* at
lower unit costs and
* To restrict potential entrants who are
not able to invest in that level of
production
LAC
P
D
Q*
Quantity
Competition, market structures and business decisions
Non-price competition.
ECW2731
Weeks 7 & 8
Barriers to entry
Product differentiation
advantages:
Price
Variety of demand curves
and common LAC.
LAC
Some firms have advantage of
technology or specialisation and
are facing demand curves to the
right of the critical one.
P*
D1
D2
D2
Q*
Quantity
Competition, market structures and business decisions
Non-profit-maximising competition.
ECW2731
Weeks 7 & 8
Appear as the result of
• Ability to affect prices and
• Separation of ownership and managerial control
* Managers’ aim at stability
and increase in salaries
*Stability may be achieved through the increase in the scale of operations
*Increase in sales (not in profit) affects manager’s remuneration
* Banks and retailers would prefer to deal with firms increasing the volume of sales
Competition, market structures and business decisions
Non-profit-maximising
competition.
ECW2731
Weeks 7 & 8
P, Cost
MC
AC
MR
D
Q
Profit
maximising
decision
Competition, market structures and business decisions
Non-profit-maximising
competition.
ECW2731
Weeks 7 & 8
P, Cost
MR
D
Q
Profit
maximising
decision
Sales
maximising
decision
•
Increasing sales, the firm is
moving to the right and
downward the demand curve
and, therefore, decreases
price,
•
The limitation is AC curve.
Some profit should be earned
anyway
Competition, market structures and business decisions
Non-profit-maximising
competition.
ECW2731
Weeks 7 & 8
P, Cost
MC
AC
MR
D
Q
Profit
maximising
decision
Competition, market structures and business decisions
Non-profit-maximising
competition.
ECW2731
Weeks 7 & 8
P, Cost
MC
AC
MR
D
Q
Old profit
maximising
decision
New profit
maximising
decision
Old sales maximising decision is a profit
maximising decision at a new level
of average cost
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Measurement of market structures
Seller concentration
Seller concentration
refers to the degree to which production for a
particular market or or in a particular industry
is concentrated in the hand of few large firms
Measurement of concentration
• number of firms in the market
• size distribution of firms in the market
Competition, market structures and business decisions
Measurement of market structures
ECW2731
Weeks 7 & 8
Seller concentration
The
Australian
Bureau of
Statistics
8140.0.55.001 Industry
Concentration Statistics
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Measurement of market structures
Seller concentration
C2542 - Paint Manufacturing in Australia
KEY COMPETITORS (www.ibisworld.com.au/static/iwabout/SamIndPart.asp)
MAJOR PLAYERS
Table: Market Share
Major Player
Market Share Range
Orica Limited
22.00% - 25.00% (2004)
Wattyl Limited
17.00% - 19.00% (2004)
Barloworld Australia Pty Limited 9.00% - 11.00% (2004)
Akzo Nobel Industries Limited
7.00% - 9.00% (2003)
Competition, market structures and business decisions
Measurement of market structures
ECW2731
Weeks 7 & 8
Seller concentration
Measurement of
concentration
T h e firm s in th e in d u s try a re s o rte d
a c c o rd in g to th e s iz e o f th e ir o u tp u t.
X i
- th e o u tp u t o f th e firm
X
-
th e o u tp u t o f in d u s try
X i
X
- th e s h a re o f th e firm in th e in d u s try
o u tp u t
T h e ra tio o f r la g e s t firm s in th e in d u s try
o u tp u t
C
r

r

i1
X i

X
X 1
X 2
X r

 . . .
X
X
X
ECW2731
Weeks 7 & 8
Census Measures of Market Concentration
• Concentration Ratios
– Group market share data are called concentration ratios.
– CRi = ∑ Xi, where Xi is market share of the ith leading firm.
– CRi = 100 for monopoly.
– CRi ≈ 0 for a perfectly competitive industry.
• Herfindahl-Hirschmann Index
– Calculated in percentage terms, the HHI is the sum of squared
market shares for all competitors.
– HHI = ∑ Xi2, where Xi2 is squared market share of the ith firm.
– HHI = 10,000 for monopoly.
– HHI ≈ 0 for a perfectly competitive industry.
• Limitations of Census Information
– Slow reports hinder usefulness.
– National statistics obscure local markets.
Competition, market structures and business decisions
Measurement of market structures
ECW2731
Weeks 7 & 8
Seller concentration
Measurement of concentration
Diagrammatic approach
Cumulative % of output
100%
The curve of real (not
equal distribution
The curve of equal
distribution of shares
of the market among
firms
N
This distance measures
concentration
No of firms cumulated from the largest
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Diversification
Vertical coordination
Multinational company
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Diversification
Invest in production
facilities to produce
a product D
A firm X
producing
a good A
Buys shares of
a firm Y producing
a good B
Invents a new
product C
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Vertical coordination
A firm X
producing
a good A
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Vertical coordination
A firm X
producing
a good A
Invest in production
facilities or buys shares
of or coordinate activities
with a firm producing an
input D
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Vertical coordination
A firm X
producing
a good A
Invest in production
facilities or buys shares
of or coordinate activities
with a firm producing an
input D
Invest in facilities or
buys shares of or
coordinate activities
with a firm providing
professional training
for employees
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Vertical coordination
Invest in production
facilities or buys shares
of or coordinate
activities with a firm using
A as an input
A firm X
producing
a good A
Invest in production
facilities or buys shares
of or coordinate activities
with a firm producing an
input D
Invest in facilities or
buys shares of or
coordinate activities
with a firm providing
professional training
for employees
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Vertical coordination
Invest in production
facilities or buys shares
of or coordinate
activities with a firm using
A as an input
Invest in or buys shares
of or coordinate activities
with a firm specialising in
the selling of product A
A firm X
producing
a good A
Invest in production
facilities or buys shares
of or coordinate activities
with a firm producing an
input D
Invest in facilities or
buys shares of or
coordinate activities
with a firm providing
professional training
for employees
Competition, market structures and business decisions
ECW2731
Weeks 7 & 8
Multinational companies. Vertical and horizontal coordination.
Multinational company
Undertake
vertical
coordination
measures abroad
A firm producing
a good A in a
home country
Conduct
diversification
practices abroad
Establishes
branches in other
countries
Buys share of
analogous firms
in other countries