MODERN
MICROECONOMICS
A. KOUTSOYIANNIS
Professor of Economics
University of Ottawa, Ontario
SECOND EDITION
Macmillan Education
© A. Koutsoyiannis 1975, 1979
All rights reserved. For information, write:
St. Martin's Press, Inc., 175 Fifth Avenue, New York, NY 10010
First published in Great Britain 197 5 by
The Macmillan Press Ltd.
Reprinted 1976 (twice), 1977 (twice), 1978
Second edition first published in the United States of America 1979 by
St. Martin's Press, Inc.
Reprinted 1981 (with corrections), 1982, 1983, 1984, 1985
Library of Congress Cataloging In Publication Data
Koutsoyiannis, A
Modern microeconomics.
Bibliography: p.
Includes index.
1. Microeconomics. I. Title.
330
HB171.S.K68 1979
78-26519
ISBN 978-0-333-25349-6
ISBN 978-1-349-16077-8 (eBook)
DOl 10.1007/9781349160778
To Charles F. Carter
and
Janet Carter
By the same author
THEORY OF ECONOMETRICS
(Second Edition)
Contents
Preface to the Second Edition
Preface to the First Edition
X111
XV
PART ONE
THE BASIC TOOLS OF ANALYSIS
INTRODUCTION
I Economic Models
II Classification of Markets
III The Concept of an 'Industry'
A. The Importance of the Concept of an 'Industry'
B. Criteria for the Classification of Firms into Industries
3
3
4
7
7
8
2 THEORY OF DEMAND
I Theory of Consumer Behaviour
A. The Cardinal Utility Theory
B. The Indifference Curves Theory
C. The Revealed Preference Hypothesis
D. The Consumers' Surplus
E. Some Applications of Indifference Curves Analysis
II The Market Demand
A. Derivation of the Market Demand
B. Determinants of Demand
C. Elasticities of Demand
D. Market Demand, Total Revenue and Marginal Revenue
III Recent Developments in the Theory of Market Demand
A. The Pragmatic Approach to Demand Analysis
B. Linear Expenditure Systems
IV The Demand for the Product of a Firm
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13
14
17
28
32
35
44
44
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50
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53
58
60
3 THEORY OF PRODUCTION
I The Production Function for a Single Product
II Laws of Production
A. Laws of Returns to Scale
B. The Law of Variable Proportions
III Technological Progress and the Production Function
IV Equilibrium of the Firm: Choice of Optimal Combination of Factors
of Production
A. Single Decision of the Firm
B. Choice of Optimal Expansion Path
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67
76
76
82
85
86
86
92
Contents
vi
v
Derivation of Cost Functions from Production Functions
A. Graphical Derivation of Cost Curves from the Production
Function
B. Formal Derivation of Cost Curves from a Production Function
VI The Production Function of a Multiproduct Firm
A. The Production Possibility Curve of the Firm
B. The lsorevenue Curve of the Multiproduct Firm
C. Equilibrium of the Multiproduct Firm
4 THEORY OF COSTS
I
II
III
IV
v
VI
VII
General Notes
The Traditional Theory of Cost
A. Short-Run Costs
B. Long-Run Costs: The 'Envelope Curve'
Modern Theory of Costs
A. Short-Run Costs
B. L~ng-Run Costs: The 'L-Shaped' Scale Curve
Engineering Cost Curves
A. Short-Run Engineering Costs
B. Long-Run Engineering Costs
The Analysis of Economies of Scale
A. Real Economies of Scale
B. Pecuniary Economies of Scale
Empirical Evidence on the Shape of Costs
A. Statistical Cost Studies
B. Studies Based on Questionnaires
c. Engineering Cost Studies
D. Statistical Production Functions
E. The 'Survivor Technique'
The Relevance of the Shape of Costs in Decision-making
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97
99
99
102
104
105
105
106
107
Ill
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146
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PART TWO
THEORY OF THE FIRM
SECTION A: PERFECT COMPETITION, MONOPOLY,
MONOPOLISTIC COMPETITION
5 PERFECT COMPETITION
I Assumptions
II Short-Run Equilibrium
A. Equilibrium of the Firm in the Short Run
B. The Supply Curve of the Firm and the Industry
c. Short-Run Equilibrium of the Industry
III Long-Run Equilibrium
A. Equilibrium of the Firm in the Long Run
B. Equilibrium of the Industry in the Long Run
C. Optimal Resource Allocation
IV Dynamic Changes and Industry Equilibrium
A. Shift in the Market Demand
B. Predictions of the Perfect Competition Model when Costs
Change
c. Effects of Imposition of a Tax
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168
Contents
vii
6 MONOPOLY
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186
189
7 PRICE DISCRIMINATION
192
192
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199
200
8 MONOPOLISTIC COMPETITION
202
203
203
204
204
205
209
212
I Definition
II Demand and Revenue
III Costs
IV Equilibrium of the Monopolist
A. Short-Run Equilibrium
B. Long-Run Equilibrium
v Predictions in Dynamic Changes
A. Shift in the Market Demand
B. An Increase in the Costs of the Monopolist
C. Imposition of a Tax
VI Comparison of Pure Competition and Monopoly
VII The Multiplant Firm
VIII Bilateral Monopoly
I Assumptions
II The Model
III Effects of Price Discrimination
IV Price Discrimination and Elasticity of Demand
v Price Discrimination and the Existence of the Industry
VI Government-Regulated Monopoly
I Assumptions
II Costs
III Product Differentiation and the Demand Curve
IV The Concepts of the 'Industry' and the 'Group'
v Equilibrium of the Firm
VI Critique
VII Comparison with Pure Competition
SECTION B: CLASSICAL OLIGOPOLY
I Cournot's Duopoly Model
II Bertrand's Duopoly Model
III Chamberlin's Oligopoly Model
IV The 'Kinked-Demand' Model
v Stackelberg's Duopoly Model
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216
225
228
230
233
COLLUSIVE OLIGOPOLY
I Cartels
A. Cartels aiming at Joint Profit Maximisation
B. Market-Sharing Cartels
II Price Leadership
A. The Model of the Low-Cost Price Leader
B. The Model of the Dominant-Firm Price Leader
C. Critique of the Traditional Price Leadership Models
D. Barometric Price Leadership
III The Basing-Point Price System
A. The Single Basing-Point System
B. Multiple Basing-Point System
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252
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253
9 NON-COLLUSIVE OLIGOPOLY
lO
viii
Contents
SECTION C: AVERAGE-COST PRICING
II
A CRITIQUE OF THE NEOCLASSICAL THEORY OF THE
FIRM: THE MARGINALIST CONTROVERSY
I The Basic Assumptions of the Neoclassical Theory
II The Hall and Hitch Report and the 'Full-Cost' Pricing Principle
III Gordon's Attack on Marginalism
IV In Defence of Marginalism
12 A REPRESENTATIVE MODEL OF AVERAGE-COST PRICING
I Goals of the Firm
II Demand and Cost Schedules
III Price Determination: The 'Mark-Up' Rule
IV Comparison with Pure Competition
v Predictions of Average-Cost Pricing Theory in Changing Market
Conditions
VI Critique of Average-Cost Pricing
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256
263
265
267
271
271
272
273
275
276
277
SECTION D: LIMIT-PRICING (or ENTRY-PREVENTING PRICING) 283
13
BAIN'S LIMIT-PRICING THEORY
I Bain's Early Model
II Barriers to New Competition
A. Bain's Concepts of 'Competition' and 'Entry'
B. Barriers to Entry
III Summary of Bain's Empirical Findings
IV Industry Equilibrium
v Some Comments
14 RECENT DEVELOPMENTS IN THE THEORY OF LIMITPRICING
I The Model of Sylos-Labini
II The Model of Franco Modigliani
III The Model of Bhagwati
IV The Model of Pashigian
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284
287
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301
301
304
305
305
313
319
320
SECTION E: MANAGERIAL THEORIES OF THE FIRM
323
15 BAUMOL'S THEORY OF SALES REVENUE MAXIMISATION
325
325
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346
348
16 MARRIS'S MODEL OF THE MANAGERIAL ENTERPRISE
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356
I Rationalisation of the Sales Maximisation Hypothesis
II Interdependence and Oligopolistic Behaviour
III Baumol's Static Models
IV Baumol's Dynamic Model
v Empirical Evidence
VI Some Comments
I Goals of the Firm
II Constraints
III The Model: Equilibrium of the Firm
Contents
IV
V
VI
VII
ix
Maximum Rate of Growth and Profits
Comparison with Baumol's Model
Comparison with a Profit Maximiser
Critique of Marris's Model
17 0.
I
II
III
WILLIAMSON'S MODEL OF MANAGERIAL DISCRETION
The Managerial Utility Function
Basic Relationships and Definitions
The Model
A. A Simplified Model of Managerial Discretion
B. The General Model of Managerial Discretion
IV Implications of the Model
V Comparative Static Properties
VI Empirical Evidence
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381
SECTION F: BEHAVIOURAL THEORY OF THE FIRM
18 THE BEHAVIOURAL MODEL OF CYERT AND MARCH
I The Firm as a Coalition of Groups with Conflicting Goals
II The Process of Goal-Formation: the Concept of the 'Aspiration
Level'
III Goals of the Firm: Satisficing Behaviour
IV Means for the Resolution of the Conflict
v The Process of Decision-making
VI Uncertainty and the Environment of the Firm
VII A Simple Model of Behaviourism
VIII A Comparison with the Traditional Theory
IX Critique
386
386
387
388
390
393
395
396
398
400
SECTION G: THEORY OF GAMES
LINEAR PROGRAMMING
19 THEORY OF GAMES
I Some Definitions
II Two-Person Zero-Sum Game
A. Certainty Model
B. Uncertainty Model
III Non-Zero-Sum Game
IV The 'Prisoner's Dilemma': A Digression
404
404
406
406
408
410
412
20 LINEAR PROGRAMMING
I General Notes
II Statement of the Linear Programming Problem
III Graphical Solution
A. Graphical Determination of the Region of Feasible Solutions
B. Graphical Determination of the Objective Function
c. Determination of the Optimal Solution
IV The Simplex Method
A. The Iterative Procedure
v The Dual Problem and Shadow Prices
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434