CHAPTER 7
MARKET STRUCTURES
COMPETITION
• Which of the following products/services have the
most competition? the least competition?
Tomatoes
Haircuts
Cars
Iced Coffee Drinks
Kitchen Appliances
Bottled Water
Cell phones
Gasoline
• What are 2 other products which are highly
competitive?
• What are 2 other products which have very little
competition?
SECTION 1 – PERFECT COMPETITION
Objectives
1. Describe the four (4) conditions that are in
place in a perfectly competitive market.
2. List two (2) common barriers that prevent
firms from entering a market.
3. Describe prices and output in a perfectly
competitive market.
CONDITIONS OF PERFECT
COMPETITION
• Only a few perfectly competitive markets exist in
today’s world
• Must meet four strict conditions:
1.
2.
3.
4.
Many buyers and sellers participating in the market
Sellers offering identical products
Buyers and sellers that are well-informed about products
Sellers are able to enter and exit the market freely
PRICES AND OUTPUT
• Perfectly competitive markets:
• Are efficient and competition keeps both prices and
production costs low.
• No supplier in a perfectly competitive market can
influence prices
• Producers make their output decisions based on their most
efficient use of resources.
COMMODITIES
• Same product regardless of who produces it
CONDITIONS OF PERFECT
COMPETITION
• Many buyers and sellers
• Perfectly competitive markets must have many buyers and sellers.
• No one person or firm can be so powerful as to influence the total
market quantity or market price
• Identical Products
• There is no difference in the products sold in a perfectly competitive
market.
• Commodities include things like agricultural products, low-grade
gasoline, notebook paper, milk and sugar
• Informed buyers and sellers
• Under conditions of perfect competition, the market provides the
buyer with full information about the product features and its price.
• Both buyers and sellers have full disclosure about the product.
• Free market entry and exit
• It is very easy for sellers to enter and exit in a perfectly competitive
market.
• Usually they enter when a product is very popular and exit when the
demand for that product decreases.
BARRIERS TO ENTRY
• Imperfect competition arises through barriers to entry.
• Common barriers include:
1. Start-up costs:
• Expenses/costs incurred before production or sales
• If costs are high, it is more difficult for new firms to enter the market
• Markets with high start-up costs (that require significant capital
investment) are less likely to be perfectly competitive.
2. Technology:
• Markets that require a high degree of technical knowledge can
be difficult to enter into without training or expertise.
• Difficult for these markets to be perfectly competitive
START-UP COSTS (EXAMPLES)
Advertising
Building construction
Cash
Decorating
Deposits (utility
companies)
• Equipment and
fixtures
• Insurance
•
•
•
•
•
Lease payments
Licenses and permits
Professional fees
Remodeling
Services (cleaning,
accounting)
• Signs
• Supplies/Inventory
• Unanticipated
expenses
(contingency)
•
•
•
•
•
START-UP COSTS
• Pet grooming
business
• Auto repair shop
• Landscaping
business
• Restaurant
• Hair care business
• Hotel
START-UP COSTS (INITIAL INVESTMENTS)
• Pet grooming business
• Sydnee’s Pet Grooming
($115,000-$241,000)
• Zoom Room Training
($133,000-$309,000)
• Landscaping business
• Weed Man ($68,000$86,000)
• U.S. Lawns ($33,000$79,000)
• Hair care business
• Great Clips ($132,000$253,000)
• Supercuts ($144,000$294,000)
• Auto repair shop
• Jiffy Lube ($219,000$400,000)
• Maaco ($374,000-$487,000)
• Restaurant
• McDonald’s ($1-$2.2 million)
• Culver’s ($1.3-$3.7 million)
• Hotel
• Hampton ($3.8-$14.1 million)
• Embassy Suites ($26.2-$39
million)
SECTION 2 - MONOPOLY
Objectives
1. Describe characteristics and give examples
of a monopoly.
2. Describe how monopolies, including
government monopolies, are formed.
3. Explain how a firm with a monopoly
makes output decisions.
4. Explain why monopolists sometimes
practice price discrimination.
QUESTION
• Do monopolies exist in public schools
such as YHS?
• Cafeteria
• Vending machines
• School rings
• Yearbook
• Student pictures
INTRODUCTION
What are some characteristics of a monopoly?
1. A single seller
2. Many barriers to entry for new firms
3. No variety of goods (supplying a unique product
with no close substitute)
4. Complete control over price
STANDARD OIL – JOHN D.
ROCKEFELLER
• Around 1900, Standard Oil controlled over 90% of oil
production
• Around 1910, the U.S. Department of Justice sued
the company for violating anti-trust law for
sustaining a monopoly.
• The lawsuit argued that Standard Oil engaged in
restraint and monopolization of pipelines and unfair
practices against competing pipelines, among
other things
FORMING A MONOPOLY
• Different market conditions can create different
types of monopolies.
1. Natural monopolies
2. Government monopolies
3. Industrial organizations
• Common to most monopolies
• Economies of Scale
• characteristics that cause a producer’s average cost to drop as
production rises
• the more that’s produced, the lower the average cost
FORMING A MONOPOLY
Natural Monopolies
• Public water is an example
• If water were a part of the competitive market, different
companies would spend large sums of money to dig
reservoirs
• More land and water would be used than necessary.
• It would be very inefficient.
• Electricity, Railways (other examples)
GOVERNMENT MONOPOLIES
Technological
Monopolies
• Issuing a patent
• Gives a company
exclusive rights to sell a
new good or service for
20 years.
• Gives company
competitive
advantage
• Allows company to
profit from research
and other costs
• Encourages innovation
Franchises & Licenses
• Granting a franchise
• Gives a single firm the right
to sell its goods within an
exclusive market
• Issuing a license
• Allows firms to operate a
business, especially where
scarce resources are
involved
• Both restrict the number
of firms in a market
INDUSTRIAL ORGANIZATIONS
• Professional sports leagues
• MLB and the NFL
• Government allows leagues to choose new cities for teams
• Leagues decide when and if to expand
• Must be approved by team owners
• Protected from antitrust laws
• To keep team play stable and orderly
OUTPUT DECISIONS
• Monopolists try to maximize profits
• They typically produce fewer goods at higher
prices.
• The Monopolist’s Dilemma
1. The law of demand states that buyers will
demand more of a good at lower prices.
2. BUT the more a monopolist produces, the less
they will receive in profits (diminishing marginal
returns).
PRICE DISCRIMINATION
• In many cases, firms charge the same price to all
customers.
• But in some instances, they may be able to charge different
prices to different groups.
• This is known as price discrimination.
• Examples :
• Targeted discounts available to particular groups:
•
•
•
•
Discounted airline fairs
Manufacturers’ rebate offers
Senior citizen and student discounts
Children fly or stay free promotions
LIMITS OF PRICE DISCRIMINATION
• Limits exist:
• Firms must have some market power
• Must be distinct customer groups
• Buyers cannot easily resell the good or service
• Most forms of price discrimination are legal
• If used to drive other firms out of business, that is
illegal
SECTION 3 – MONOPOLISTIC
COMPETITION AND OLIGOPOLY
Objectives
1. Describe characteristics and give examples
of monopolistic competition.
2. Explain how firms compete without
lowering prices.
3. Understand how firms in a monopolistically
competitive market set output.
4. Describe characteristics and give examples
of oligopoly
MONOPOLISTIC COMPETITION
• Monopolistic Competition is
• A market structure in which many companies sell products
that are similar but not identical
• What are some products that are similar but not
identical?
• What are some ways that companies compete to
sell products that are very similar but not the same?
• What happens when companies raise their price on
these types of products?
MONOPOLISTIC COMPETITION CONDITIONS
• Many Firms
• Low start-up costs allow many firms to enter the market.
• Few barriers to entry
• It is easy for new firms to enter the market.
• Little control over price
• If a firm raises their prices too high, consumers will go
elsewhere to buy a similar product.
• Differentiated products
• Allows a firm to profit from the differences between their
product and a competitor’s product
NON-PRICE COMPETITION
• How do firms attract customers without having to
lower prices?
1.
2.
3.
4.
Physical characteristics (quality) of products
Location of seller
Service level
Advertising, image or status
• Name a product you would buy because it’s quality
is better than a competing product.
• Name a business that you buy from because of the
level of service offered
• Name a brand that stands out above its
competition
PRICES, OUTPUT AND PROFITS
MONOPOLISTIC COMPETITION
• Prices
• Must be price competitive or risk losing customers
• Higher than in perfect competition
• Output
• Set based on law of demand
• Profits
• Typically earn low profits
• If profits are high
1. Rivals would find new ways to get customers back
2. New firms would enter market (slightly different products with
lower prices)
OLIGOPOLY
• Market dominated by a few, profitable firms
• 4 largest firms produce 70-80% of the output
• Barriers to Entry
• High start-up costs
• Technological expertise
• Created by a system of government licenses or patents.
• Economies of scale can also lead to an oligopoly
• Average cost decreases as output increases
• Smaller firms cannot compete on this basis
EXAMPLES OF OLIGOPOLIES
• What industries would/could be considered
oligopolies?
•
•
•
•
•
•
•
•
Airliners (airplanes)
Car manufacturers
Appliance makers
Movie studios
Wireless (cell phone) providers
Healthcare insurance
Accounting services
Soft drinks
OLIGOPOLIES
% OUTPUT PRODUCED BY 4 LARGEST FIRMS
SOURCE: BUREAU OF CENSUS, CENSUS OF MANUFACTURERS, 2007
Industry
% of Output
Cigarettes
98%
Household Laundry Equipment
98%
Refrigerators and Freezers
92%
Beer
90%
Electronic Computers
87%
Aircraft
81%
Breakfast Cereals
80%
Tires
73%
Household Vacuum Cleaners
71%
Motor Vehicles
68%
COOPERATION, COLLUSION, AND
CARTELS
• 3 practices that concern government (oligopolies)
1. Price Leadership
• Market leader starts price increases or cuts
• This can lead to price wars (disagreements with leader)
• Competitors cut prices further to win business
2. Collusion
• This leads to price fixing and is illegal in the United States
• Competitors divide market, set prices, limit production
3. Cartels
• Producers coordinate prices and production
• Requires all members to keep agreed output levels
• Illegal in the U.S.; permitted in other countries
• OPEC – international cartel (set output levels for oil production)
WHAT ARE THE CHARACTERISTICS OF
MONOPOLISTIC COMPETITION AND
OLIGOPOLY?
Monopolistic Competition
• Many firms in the market
Oligopoly
• Similar, but different goods
• Few firms dominate the
market
• Some variety of goods
• Minimal barriers to entry
• Many barriers to entry
• Little control over prices
• Some control over prices
COMPARISON OF MARKET
STRUCTURES - CHART
Similar (2)
Yes (3)
Little (1)
Unique (1)
None (3)
Few Dominate (1)
One (1)
Complete (2)
Many (3)
Identical (1)
High (2)
Some (1)
Low (1)
Minimal (1)
Yes & No (1)
SECTION 4 – REGULATION AND
DEREGULATION
Objectives
1. Explain how firms might try to increase their
market power.
2. List three market practices that the
government regulates or bans to protect
competition.
3. Define deregulation, and list its effects on
industries.
QUESTIONS
When does the government regulate competition?
Why?
• To ultimately protect consumers from high prices
How does the government regulate competition?
• Antitrust laws
• Approving or not approving mergers
• Deregulation
MARKET POWER
What is it? How do firms achieve it?
• Ability of a firm to control prices and total output
• Tend to have higher prices and lower output in markets
dominated by 1 firm or a few large ones
• To gain such power
• If leading firms in a particular industry can merge
• If competing firms are allowed to form a cartel
• Set prices below their costs to drive out competition (predatory
pricing)
GOVERNMENT AND COMPETITION
What is the purpose of antitrust laws?
• To keep firms from gaining too much market power.
• Responsibility of The Federal Trade Commission (FTC)and the
Department of Justice’s Antitrust Division
• Make sure firms don’t unfairly force out competitors
• The government can regulate companies that try to
get around antitrust laws.
• In 1997 the Department of Justice accused Microsoft of using
its power over the operating system market to try to take
control of the browser market.
• A judge ruled against Microsoft. Microsoft appealed.
• Settlement: Microsoft could not force computer manufacturers
to provide only Microsoft software on new computers.
GOVERNMENT AND COMPETITION
Blocking Mergers
• The government has the
Corporate Mergers
• Some mergers can
benefit consumers.
• power to prevent the rise of
monopolies
• Corporate mergers can
• The government also
lower average costs,
• checks in on past mergers
which leads to:
to make sure that they do
not lead to unfair market
control.
• The government tries
• to predict the effects of a
merger before approving it.
• Lower prices
• More reliable products
and services
• More efficient industry
DEREGULATION
What is it?
• Removal of government controls over a market
• Some government regulation was seen to reduce
competition
• This led to the deregulation of some industries.
• Over several years, the government has
deregulated the following industries:
•
•
•
•
•
•
Airlines
Trucking
Banking
Natural gas & other utilities
Railroad
Television broadcasting
JUDGING DEREGULATION
Does deregulation always have the desired results?
• Once an industry is deregulated
• new firms can enter the market
• increased competition can lead to lower prices for
consumers.
• Stages of a deregulated market
1.
2.
3.
4.
Early on, growth occurs
Eventually, the weaker players don’t survive
Back to fewer firms controlling market
Prices rise once again – consumers pay more
DEREGULATING THE AIRLINES
• When airlines were first deregulated (1978), many new
airlines entered the market
• Some failed or were acquired by other airlines.
• Competition increased among the remaining airlines
and prices went down.
• The 9/11 attacks caused many people to stop flying, if
only temporarily
• Profits fell as costs for security, insurance, and fuel rose.
• Today the future of the airline industry is still uncertain.
• Some have filed for bankruptcy protection
• Additional mergers have occurred