Chapter 13 – Competition in Markets ECONOMICS THEORY AND PRACTICE Seventh Edition Patrick J. Welch & St. Louis University Gerry F. Welch St. Louis Community College at Meramec PowerPoint Presentation by: Dr. Ray Everett Pima Community College Copyright © 2004 John Wiley & Sons, Inc. All rights reserved. Competition and Market Structures Contents Defining a Market Market Structures Pure Competition Monopolistic Competition Oligopoly Monopoly Market Structures & Efficiency Maximizing Profit (Chapter 13 Appendix) Competition and Market Structures Chapter Objectives • To define a market and explain how its boundaries are determined. • To explain how a firm’s pricing and profit behavior are related to the amount of competition it faces in the market. • To give the basic characteristics of the four market structures: pure competition, monopolistic competition, oligopoly, monopoly. • To describe an individual firm’s demand curve, pricing behavior, and nonprice competitive behavior in each of the four market structures. • To explain how a firm’s long-run pricing and profit behavior and the degree of efficiency it achieves are affected by the amount of competition it faces in a market. • To evaluate how consumers fare and how efficiency is achieved with firms in each of the four market structures. • To develop (in an appendix) the explanation of how a firm determines its profit-maximizing price and output level. Defining a Market • Market Structures System for grouping and analyzing markets according to the degree and type of competition among sellers. • Industry Group of firms producing similar products or using similar processes. • Market Includes firms that produce similar products or use similar products, or use similar processes, and compete for the same buyers. • Geographic Boundary of a Market Defined by the geographic area in which sellers and buyers compete. • Product Boundary of a Market Defined by product substitutability among buyers. 13-1 Market Structures • Factors Affecting a Market Model Number of sellers • Important to the amount of competition in a market. Product type • Can be identical from seller to seller or be different. • If a firm can distinguish its product from those of its competitors, then nonprice competition can arise. Entry and exit • The ease with which a firm may enter or leave a market. 13-2 Pure Competition • Characteristics Large number of independent sellers. Identical products are offered for sale. Easy entry into and exit from the market. • Control Over Price Price Takers • Sellers with no control over the price of their products. – Market demand and market supply determine the equilibrium price and quantity of a product. 13-3a Pure Competition • Market Demand Curve Demand curve for all buyers in the market together. • Individual Firm’s Demand Curve Amounts of an individual firm’s product that buyers are willing to purchase at particular prices. FIGURE 13-2 Demand Curve for the Output of a Purely Competitive Seller 13-3b Pure Competition • Effect of an Increase in Market Demand Equilibrium price will increase. Individual firm’s demand curve shifts upward. FIGURE 13-3 Effect on the Individual Firm of an Increase in Market Demand 13-3c Pure Competition • Economic Profit, Loss, or Breaking Even Occurs when price is greater than, less than, or equal to average total cost, respectively. • Nonprice Competition Firms focus on a feature other than price to attract buyers to their products. Does not occur in purely competitive markets. FIGURE 13-4 A Purely Competitive Seller Operating with an Economic Profit, a Loss, or Breaking Even 13-3d Pure Competition • Long-Run Position Cost of production is as low as it can possibly be. Price of the product is as low as it can possibly be. Consumer pays no economic profit. FIGURE 13-5 Long-Run Position of a Purely Competitive Seller 13-3e Pure Competition • Effect of Entry & Exit Entry • Firms are attracted to a market when economic profit is being made by individual firms in that market. • Causes the market supply to increase and the equilibrium price to fall. Exit • Firms drop out of a market in the long run when others begin to operate at a loss. • Causes the market supply to decrease and the equilibrium price to rise. 13-3f Pure Competition • Effect of Entry & Exit (cont.) FIGURE 13-6 Effect of Entry of Sellers into a Purely Competitive Market FIGURE 13-7 Effect of Exit of Sellers from a Purely Competitive Market 13-3g Pure Competition • Purely Competitive Market Examples 13-3h Pure Competition • Purely Competitive Market Examples (cont.) 13-3i Monopolistic Competition • Characteristics Large number of sellers, but not as many as in pure competition. Differentiated products. Fairly easy entry into and exit from the market. • Control Over Price Due to the differentiated products, a seller may raise the price of a product and lose only some, but not all, of its buyers. • Buyers do not view the product of one seller as a perfect substitute for the product of another, and this allows the seller to increase prices. 13-4a Monopolistic Competition • Individual Firm’s Demand Curve Downward-sloping due to product differentiation. FIGURE 13-8 Demand Curve for the Output of a Monopolistically Competitive Seller 13-4b Monopolistic Competition • Pricing, Profit, and Loss Can be determined by comparing the demand curve and average total cost curve for a product listed by a seller. • Nonprice Competition Due to differentiation, nonprice competition can occur through: • Packaging, parking, facility ambience, service, location, quality, selection, guarantees, etc. FIGURE 13-9 A Monopolistically Competitive Seller Operating with an Economic Profit or a Loss 13-4c Monopolistic Competition • Long-Run Position Earns a normal profit. Unlike pure competition, does not operate at minimum average cost. Efficiency is sacrificed for product differentiation. FIGURE 13-10 Long-Run Position of a Monopolistically Competitive Seller 13-4d Oligopoly • Characteristics Market is dominated by a few large sellers. Products may be differentiated or identical. Entry into the market is quite difficult. • Control Over Price Mutual Independence • So few sellers exist in the market that each seller weighs the actions and reactions of rivals in decision making. 13-5a Oligopoly • Individual Firm’s Product Price Leadership Pricing • One firm in a market sets a price that the other firms in the market then adopt. Kinked Demand Curve • Assumes that rivals will not follow price decreases. – As a seller’s price rises, the amount of its product demanded decreases substantially, but as its price falls, the amount demanded increases only slightly. 13-5b Oligopoly • Nonprice Competition Depends on whether the products are identical or differentiated. • Long-Run Position Earns an economic profit. • Item price can be greater than its actual cost. Inefficiency may occur due to restricted entry into the market. 13-5c Monopoly • Characteristics Only one seller. No need to consider the issue of product differentiation. No possibility of entry by new sellers. • Monopolistic Examples Public utilities • Regulatory agencies may deny permission for new sellers to enter the market. Ownership of a patent • Patent may cover a wide range of manufacturing processes. Sole owner of a factor necessary for production • Cartels Arrangement made whereby sellers formally join together in a market to make decision as a group on matters such as pricing. 13-6a Monopoly • Control Over Price More control over its price than does a firm in any other market. Its demand curve is the market demand curve. • Demand for a Monopolist’s Product Price Searcher • A firm that searches its downward-sloping demand curve to find the price-output combination that maximizes its profit. 13-6b Monopoly • Demand for a Monopolist’s Product (cont.) 13-6c Monopoly • Demand for a Monopolist’s Product (cont.) 13-6d Monopoly • Nonprice Competition Advertising and other nonprice competition may be designed to make people aware of the good or service itself, not the seller. • Long-Run Position Earns an economic profit. • May be monitored or controlled by a regulatory agency. Inefficiency may occur due to restricted entry into the market. 13-6e Market Structures & Efficiency • Market Structure Overview Pure Competition • Buyers fare best in this market. • In the long run, price is equal to the average total cost. Monopolistic Competition • In the long run, price is equal to the average total cost. – This is not the lowest possible level due to the downwards-sloping demand curve. • Greater inefficiency. Oligopoly & Monopoly • In the long run, the price of a product can remain above its average total cost. • Possible inefficiency. 13-7a Market Structures & Efficiency • Market Structure Overview (cont.) 13-7b Maximizing Profit (Appendix Slide 1) • A Pure Competition Firm TABLE 13A-1 Price, Quantity, and Revenue Information for a Purely Competitive Seller 13-8a Maximizing Profit (Appendix Slide 2) • A Pure Competition Firm (cont.) Determining the Profit-Maximizing Output • MC = MR FIGURE 13A-1 Profit-Maximizing Output for a Purely Competitive Seller 13-8b Maximizing Profit (Appendix Slide 3) • A Pure Competition Firm (cont.) Maximizing Profit or Minimizing Loss • MC = MR FIGURE 13A-2 A Purely Competitive Seller Maximizing Profit or Minimizing Loss 13-8c Maximizing Profit (Appendix Slide 4) • A Firm with a Downward-Sloping Demand Curve Marginal revenue curve position • Lies below the demand curve because the price must be lowered to sell a larger quantity. • Marginal revenue for each additional unit demanded is therefore less than price. FIGURE 13A-3 Demand and Marginal Revenue from Selling Chairs 13-8d Maximizing Profit (Appendix Slide 5) • A Firm with a Downward-Sloping Demand Curve Determining the Profit-Maximizing Output • DP @ (MC = MR) • Use the demand curve price at the point where marginal cost and marginal revenue intercept. FIGURE 13A-4 Profit-Maximizing Output for a Firm with a Downward-Sloping Demand Curve 13-8e Maximizing Profit (Appendix Slide 6) • A Firm with a Downward-Sloping Demand Curve Maximizing Profit or Minimizing Loss • Difference between DP and ATCP @ (MC = MR) FIGURE 13A-5 A Firm with a Downward-Sloping Demand Curve Maximizing Profit or Minimizing Loss 13-8f Chapter 13 – Competition in Markets This is the end of Chapter 13. To return to the contents menu of this chapter, click on the menu graphic to the right of this text. To begin Chapter 14, click on the next chapter icon to the right of this text. Menu Next Chapter ECONOMICS THEORY AND PRACTICE Seventh Edition Copyright © 2004 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the expressed written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.