Econ 1123 1st Edition Final Exam Study Guide Lectures 18 24 NOTE This final is cumulative so this study guide is to be used with study guides 1 and 2 for the full study guide Tip The book is a really good place to find the definitions for the define and explain portions Lecture 18 March 6 Concepts covered I Monopoly Inefficiency When a monopoly is inefficient the demand schedule and marginal revenue schedule will not meet at the same place on the upward sloping marginal cost graph Sometimes this causes deadweight loss The loss of consumer and producer surplus because some transactions are not undertaken Note monopolies are more inefficient because they are protected from competition so they have weaker incentives to minimize costs Monopolists could devote all economic profits to rent seeking and still earn normal accounting profits Price Discrimination Pre supposes some degree of market power or monopoly power i e some control over the price charged unlike pure competition who are price takers Generally charging different consumer groups different prices for the same product or service Requirements for price discrimination Sellers must have some market or monopoly power Sellers must be able to separate consumers based on their elasticities of demand Sellers with market power must be able to prevent arbitrage prevent low price buyers from reselling to high price buyers II Monopoly Characteristics Revisited Sources of monopoly power Monopoly Inefficiency Rent seeking x inefficiency Price D Regulating a Natural Monopoly Anti Trust Policy In monopoly there is one seller with no close substitutes and significant barriers to entry Source of monopoly power economies of scale decreasing average costs over a large range out output Examples of Natural Monopolies intel local newspapers electrical utilities Definitions Rent Seeking behavior directed toward avoiding competition resources expended to protect a monopoly position lobbying licensing requirements Lecture 19 March 8 Concepts covered Price Discrimination charging different customers different prices for the same product Three types of price discrimination 1 First degree perfect price discrimination charging each customer the maximum priced each is willing to pay They will do this until the demand meets the ATC schedule because if they do that past that point on the demand schedule they will incur loss 2 Second degree Price discrimination Charging different customers based on the quantities purchased This is called tiered pricing 3 Third degree price discrimination charging different groups of customers different prices example airlines will charge business people more than vacationers because business people have more inelastic demand that says that they really need to be somewhere I Regulating the Natural Monopolist Natural monopoly large economies of scale declining ATC mean the efficient scale of operations is roughly equal to market demand electrical company water company Marginal Cost pricing rule Regulations force the natural monopoly public utility to charge a price that equals marginal cost Average Cost Pricing Regulators require the natural monopoly to charge a price to average total costs At Price of average total costs the utility earns normal accounting profits Rate of return regulation Regulators allow the monopoly to earn normal accounting profits by estimating or calculating a reasonable return on invested capital Problem which costs and capital investments should be included II Price Caps regulators only allow the monopoly utility to charge certain Capped maximum prices Case study California energy crisis 2000 2001 Wholesale prices for the company went up 800 but the electric company sells in the retail market at capped prices trying to make electricity available for everyone The company went bankrupt and there were shortages of power in San Francisco How do you measure monopoly power a Concentration ratio b Herfendal Hirschman Index HHI Concentration ration equal to the share of industry sales accounted for by the largest firms in the industry usually largest 4 or largest 8 However sometimes you cannot just rely on the CR so you use HHI Herfendal Hirschman index A way of measuring industry concentration equal to the sum of the square of market shares of all firms in the industry Definitions Price Discrimination charging different customers different prices for the same product Herfindahl Hirshman Index HHI A way of measuring industry concentration equal to the sum of the squares of the market shares for all firms in the industry Lecture 20 March 13 Concepts covered I Antitrust Policy Antitrust Policy laws designed with intention to maintain competition and prevent monopolies from developing Examples Sherman Anti Trust Act 1890 conspiracies in the restraint of trade and attempt to monopolize are illegal Clayton Act 1914 Makes price discrimination illegal IF it lessens competition Federal Trade Commission Act 1914 Unfair or deceptive commercial practices are illegal II Measuring the Extent of monopoly power Stigler All products or enterprises with large long run elasticities of demand should be combined in a single market Cross elasticity of demand change in Qdemanded of X change in Price Y You look at the relationship between these and if they are both increasing then they are substitues Herfendal Hirschman Index Way of measuring industrial concentration equal to the sum of the squares of market shares of all firms in the industry HHI S1 2 S2 2 SN 2 Where S1 S2 SN percentage market share total industry sales of each firm in the industry This takes away the errors that you can get using only concentration ratio HHI ranges from approximately 0 a very large number of firms with very small market shares like pure competition to 10 000 which would be pure monopoly 1992 FTC Guidelines If HHI 1 000 unconcentrated 1000 HHI 1800 moderately concentrated HHI 1800 Highly concentrated Mergers resulting in HHI 1000 approved Mergers resulting in HHI 1000 HHI 1800 closely evaluated Criteria for evaluation if HHI rises by 100 points them typically its disapproved Mergers resulting in HHI 1800 typically challenged and disapproved if HHI goes up by 50 III Contestable Markets Markets that may appear to be monopolistic but entry and exit costs that the threat of competition keeps prices lower Closer to competitive level Implication perfectly contestable markets deliver the theoretical benefits of pure competition without a large number