Between Competition and Monopoly Monopolistic Competition and Oligopoly Contents Contents Monopolistic Monopolistic Competition Competition Oligopoly Oligopoly Monopolistic Monopolistic Competition Competition Oligopoly Oligopoly and and Public Public Welfare Welfare A AGlance Glance Backward Backward Comparing Comparing the the Four Four Market Market Forms Forms Copyright 2006 South Western Thomson Learning All rights reserved A A Dose Dose of of Reality Reality Monopolistic Monopolistic Competition Competition isis the the most most widespread widespread industry industry structure structure in in the the U S U S Output Output generated generated by by oligopolistic oligopolistic industries industries generates generates more more than than half half of of U S U S GDP GDP GDP GDP gross gross domestic domestic product product Roughly Roughly speaking speaking total total annual annual output output Analysis Analysis isis complicated complicated won t won t say say much much Copyright 2006 Southwestern Thomson Learning All rights reserved Monopolistic Monopolistic Competition Competition Characteristics Characteristics of of Monopolistic Monopolistic Competition Competition Many Many sellers sellers Freedom Freedom of of entry entry and and exit exit Perfect Perfect information information Heterogeneous Heterogeneous products products Copyright 2006 Southwestern Thomson Learning All rights reserved Monopolistic Monopolistic Competition Competition Characteristics Characteristics of of Monopolistic Monopolistic Competition Competition First First three three characteristics characteristics same same as as those those for for perfect perfect competition competition Fourth Fourth isis an an important important distinction distinction Demand Demand curve curve that that every every firm firm faces faces isis negatively negatively sloped sloped Majority Majority of of U S U S firms firms are are in in this this type type of of market market structure structure Copyright 2006 Southwestern Thomson Learning All rights reserved Monopolistic Monopolistic Competition Competition Price Price and and Output Output Determination Determination under under Monopolistic Monopolistic Competition Competition MR MR MC MC rule rule applies applies for for setting setting output output i e i e individual individual firm firmacts acts like like monopoly monopoly Long run Long run equilibrium equilibrium the the firm s firm s demand demand curve curve must must be be tangent tangent to to its its average average cost cost curve curve Copyright 2006 Southwestern Thomson Learning All rights reserved FIGURE FIGURE 1 1 Short Run Short Run Equilibrium Equilibrium Under Under Monopolistic Monopolistic Competition Competition MC Price per Gallon AC 1 80 1 50 1 40 1 00 P C E D MR 12 000 Gallons of Gasoline per Week Copyright 2006 South Western Thomson Learning All rights reserved FIGURE FIGURE 2 2 Long Run Long Run Equilibrium Equilibrium Under Under Monopolistic Monopolistic Competition Competition MC Price per Gallon AC 1 45 1 35 P M E D MR 10 000 15 000 Gallons of Gasoline per Week Copyright 2006 South Western Thomson Learning All rights reserved Excess Excess Capacity Capacity Theorem Theorem Under Under monopolistic monopolistic competition competition in in the the long long run run the the firm firm will will produce produce an an output output lower lower than than that that which which minimizes minimizes its its unit unit costs costs Hence Hence unit unit costs costs will will be be higher higher than than necessary necessary Copyright 2006 Southwestern Thomson Learning All rights reserved Excess Excess Capacity Capacity Theorem Theorem Achievement Achievement of of minimum minimum average average costs costs would would require require fewer fewer but but larger larger firms firms This This inefficiency inefficiency may may however however be be aa reasonable reasonable price price to to pay pay for for providing providing aa large large range range of of consumer consumer choice choice Copyright 2006 Southwestern Thomson Learning All rights reserved Oligopoly Oligopoly Oligopoly Oligopoly market market dominated dominated by by aa few few sellers sellers at at least least several several of of which which are are large large enough enough relative relative to to the the total total market market that that they they can can influence influence the the market market price price Oligopoly Oligopoly more more intense intense competition competition than than pure pure competition competition Copyright 2006 Southwestern Thomson Learning All rights reserved Oligopoly Oligopoly Why Why Oligopolistic Oligopolistic Behavior Behavior is is So So Difficult Difficult to toAnalyze Analyze Oligopolistic Oligopolistic firms firms interact interact with with each each other other in in complex complex ways ways and and almost almost anything anything can can and and sometimes sometimes does does happen happen under under oligopoly oligopoly Copyright 2006 Southwestern Thomson Learning All rights reserved Oligopoly Oligopoly Lines Lines of ofAttack Attack Ignore Ignore interdependence interdependence Strategic Strategic interaction interaction Cartels Cartels Price Price leadership leadership and and tacit tacit collusion collusion To To understand understand everything everything except except first first point point you you must must understand understand Game Game Theory Theory Copyright 2006 Southwestern Thomson Learning All rights reserved Oligopoly Oligopoly and and Game Game Theory Theory Game Game Theory Theory analyzes analyzes problems problems where where agents agents account account for for others others actions actions when when taking taking aa decision decision Ex Ex duopoly duopoly two two firms firms serving serving one one market market Each Each firm firm supplies supplies half half of of total total quantity quantity Choice Choice of of firm firm 11 affects affects choice choice of of firm firm 22 and and vice vice versa versa Will Will study study Game Game Theory Theory after after Midterm Midterm 22 Copyright 2006 Southwestern Thomson Learning All rights reserved Monopolistic Monopolistic Competition Competition Oligopoly Oligopoly Public Public Welfare Welfare Behavior Behavior isis so so varied varied that that itit isis hard hard to to come come to to aa simple simple conclusion conclusion about about welfare welfare implications implications In In many many circumstances circumstances