Understanding Market Structures and Competition

Market Structures

Perfect Competition: many buyers & sellers of a standard product & easy entrance & exit (ex: oranges)

Monopolistic Competition: many buyers & sellers of slightly differentiated products & easy entrance & exit (fast food)

Oligopoly: few businesses and entry to industry is restricted (cars & cellphones)

Monopoly: one business supplies a product w/ no close substitutes (debeers diamonds)

Key Concepts

Entry Barriers: increasing returns to scale, market experience, restricted ownership of resources, legal obstacles, market abuses, advertising

Market Power: a business's ability to affect the price of the product it sells

Revenue

Average Revenue: the extra total revenue earned from an additional unit of output AR=TR/Q

Margin Revenue: the extra TR earned from an additional unit of output MR=change in TR/change in Q

Profit Maximizing Rule: product at the level of output where marginal revenue and marginal cost intersect

Business Operations

Break Even Point: price=average cost (AC) at the profit maximizing output

Shutdown Point: TR=VC (p*q)= (AVC*q) p= minimum avc

Benefits of Perfect Competition

• Minimum Cost Pricing
• Margin Cost Pricing
• Margin Productivity Theory
• Profit Maximizing Employment Rule

Oligopoly

Mutual Independence: the relationship among oligopolists in which the actions of each business affect the other business

Market Share: a business's proportion of market sales

Kinked Demand Curve: a demand curve with two segments, one fairly flat and one steep, that is typical of rival oligopolists

Price Leadership: an understanding among oligopolists that one business will initiate all price changes in the market and the others will follow by adjusting their prices and output accordingly

Collusion: oligopolists acting together as if they are a monopoly

Cartel: a union of oligopolists who have a formal market-sharing agreement

Regulation and Competition

Average Cost Pricing: the practice of setting price where it equals average cost

Accounting Profit Rate: a measure of a business's profitability calculated as its accounting profit divided by its owners equity (AP/OW)*100%=accounting profit rate

Fair Rate of Return: the maximum accounting profit rate allowed for regulated monopoly

Other Concepts

Game Theory: an analysis of how mutually interdependent actors try to achieve their goals through the use of strategy

Prisoners Dilemma: a classic example of how players self-interested actions can be self-defeating

Contestable Markets: those in which the threat of new entrants is credible

Anti-Combines Legislation: laws aimed at preventing industrial concentration and abuses of market power.

*conspiracy, bid-rigging, predatory pricing, abuse of dominant position, mergers

Mergers and Competition

• Horizontal Merger: a combination of formal rivals
• Vertical Merger: a combination of a business and its supplier
• Conglomerate Merger: a combination of businesses in unrelated industries

Competition Strategies

• Non-Price Competition: efforts to increase demand through product differentiation, advertising or both
• Product Differentiation: efforts to make a product distinct from competitors' products

Market Analysis

Concentration Ratio: the percentage of total sales revenue earned by the largest businesses in the market

Industrial Concentration: market domination by one or a few large businesses