Slide 1CHAPTER OUTLINEFrom Perfect Competition to MonopolySlide 4Picking the Quantity to Maximize Profit The Monopoly CaseCharacteristics of Perfect CompetitionMonopolyMonopolistic CompetitionOligopolyWhich Model Fits Reality?Examples of Different Market FormsDistinguishing Characteristics Between Market FormsConcentration RatiosHerschfeld-Herfindahl IndexConcentration Ratios For Various Manufacturing IndustriesHerschfeld-Herfindahl IndexSupply Under Perfect CompetitionNormal vs. Economic ProfitWhen and Why Economic Profits Go to ZeroTime HorizonsMarket Forms and Economic ProfitsFigure 2 The Pressures on Price in Perfect CompetitionFigure 3 Points of Production in Perfect CompetitionFigure 4 Supply in Perfect Competition5-1©2015 McGraw-Hill Education. All Rights Reserved ©2015 McGraw-Hill Education. All Rights Reserved Chapter 5Perfect Competition, Monopoly, and Economic vs. Normal Profit5-2©2015 McGraw-Hill Education. All Rights Reserved CHAPTER OUTLINE•From Perfect Competition to Monopoly•Supply Under Perfect Competition5-3©2015 McGraw-Hill Education. All Rights Reserved From Perfect Competition to Monopoly•Perfect Competition•Monopolistic Competition•Oligopoly•Monopoly5-4©2015 McGraw-Hill Education. All Rights Reserved Picking the Quantity to Maximize Profit The Perfectly Competitive CaseMCATCAVCMRQ*P*PQMany Competitors5-5©2015 McGraw-Hill Education. All Rights Reserved AVCMRDMCATCQ*P*PQNo Competitors Picking the Quantity to Maximize Profit The Monopoly Case5-6©2015 McGraw-Hill Education. All Rights Reserved Characteristics of Perfect Competition•a large number of competitors, such that no one firm can influence the price •the good a firm sells is indistinguishable from the ones its competitors sell •firms have good sales and cost forecasts •there is no legal or economic barrier to its entry into or exit from the market5-7©2015 McGraw-Hill Education. All Rights Reserved Monopoly•The sole seller of a good or service.•Some monopolies are generated because of legal rights (patents and copyrights).•Some monopolies are utilities (gas, water, electricity etc.) that result from high fixed costs.5-8©2015 McGraw-Hill Education. All Rights Reserved Monopolistic Competition•Monopolistic Competition: a situation in a market where there are many firms producing similar but not identical goods. •Example : the fast-food industry. McDonald’s has a monopoly on the “Happy Meal” but has much competition in the market to feed kids burgers and fries.5-9©2015 McGraw-Hill Education. All Rights Reserved Oligopoly•Oligopoly: a situation in a market where there are very few discernible competitors •Examples •Satellite TV service (Direct TV, Dish Network)•Airlines (American, Delta etc.)5-10©2015 McGraw-Hill Education. All Rights Reserved Which Model Fits Reality?•Perfect competition is rare outside agriculture though it fits some labor markets.•Monopolies are common in utilities•Major branded companies are typically either in oligopolistic or monopolistically competitive industries.5-11©2015 McGraw-Hill Education. All Rights Reserved Examples of Different Market FormsPerfect CompetitionMonopolistic CompetitionOligopoly Monopoly1) Agriculture2) Lumber1) Fast Food2) Clothing1) Smart-phones2) Soft Drinks1) Windows Operating system2) Local Residential electric power5-12©2015 McGraw-Hill Education. All Rights Reserved Distinguishing Characteristics Between Market FormsPerfect CompetitionMonopolistic CompetitionOligopoly MonopolyNumber of FirmsMany-often thousands or even millionsSeveral* Few* OneBarriers to EntryNone Few Substantial Insurmountable, at least in the short runProduct SimilarityIdentical Similar but not identicalSimilar or IdenticalN/A* The line between “several” and “few” is not definite5-13©2015 McGraw-Hill Education. All Rights Reserved Concentration Ratios•there is no magic line that separates oligopoly from monopolistic competition.•a “concentration ratio” measures the percentage of total market sales for the top firms (from 4 firms to 100 firms).5-14©2015 McGraw-Hill Education. All Rights Reserved Herschfeld-Herfindahl Index•Sum of Squared Market Share•0 Perfect Competion•10,000 Monopoly•(10,000/N) N equally sized firms5-15©2015 McGraw-Hill Education. All Rights Reserved Concentration Ratios For Various Manufacturing IndustriesIndustry Group Concentration Ratios4 Largest Firms 8 Largest Firms 50 Largest FirmsBreakfast Cereals80.4 91.9 100.0Ice Cream 52.7 66.3 93.6Beer 89.5 91.5 96.3Clothing 7.9 14.1 39.2Computers and Peripherals63.4 71.8 89.3Furniture 21.2 27.0 53.2Cellular Service 80.2 90.7 97.95-16©2015 McGraw-Hill Education. All Rights Reserved Herschfeld-Herfindahl IndexIndustry Group HHIBreakfast Cereals 2425.5Ice Cream 954.1Beer *Clothing 44.0Computers and Peripherals 2030.7Furniture 328.75-17©2015 McGraw-Hill Education. All Rights Reserved Supply Under Perfect Competition5-18©2015 McGraw-Hill Education. All Rights Reserved Normal vs. Economic Profit•Normal Profit : the level of profit that business owners could get in their next best alternative investment•Economic Profit: any profit above normal profit5-19©2015 McGraw-Hill Education. All Rights Reserved When and Why Economic Profits Go to Zero5-20©2015 McGraw-Hill Education. All Rights Reserved Time Horizons•Short Run: the period of time where we cannot change things like plant and equipment •Long Run : the period of time where we can change things like plant and equipment5-21©2015 McGraw-Hill Education. All Rights Reserved Market Forms and Economic Profits•Under perfect competition or monopolistic competition, economic profits go to zero because of the entry of new firms increases market supply and lowers prices.•Economic profits are under no pressure to shrink under oligopoly or monopoly because entry doesn’t occur so prices do not fall.5-22©2015 McGraw-Hill Education. All Rights Reserved Figure 2 The Pressures on Price in Perfect Competition $QMCATCAVCMR3MR1MR2MR4Long Run PressureShort Run Pressure5-23©2015 McGraw-Hill Education. All Rights Reserved Figure 3 Points of Production in Perfect Competition$QMCATCAVCMR4MR3MR2MR15-24©2015 McGraw-Hill Education. All Rights Reserved Figure 4 Supply in Perfect