ECON 1012 - Market Power, Revised

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Market Power

4 What is the effect of


market power on
industry outcomes
and the economy?

DAMIEN KING
University of the West Indies, Jamaica
Outline 1Market Structures

Market Power and Market


2Outcomes
3Price Discrimination

4The Industry in the Long Run

2
What is the effect of market
?
power on price and quantity in an
industry?
Why do the biggest car
?
companies have the most
recalls?
Why does nearly every country
?
have a competition authority?
Why do airlines have so many
?
different fares for the same flight
on the same day?

?
Why are generic drugs cheaper?

3
Market
Structures
Market Power
the ability of a seller to
charge a price above
the level that would
prevail under pure
competition
Alternative: Monopoly Power

5
Market
Power
Product
Distinctive
ness
6
Perfe SUBSTITUTABI Poo
ct LITY r

None MARKET Lots


POWER 7
$

Po bs
Su
or tit
Cl Market
ut
Su ose

es
Power
bs
tit
ut
es

and
Elastici
Indistinguish
able

Q ty
8
Markets differ
according to their
market structure
the characteristics
of the market.
10
Substitutes Suppliers Entry/exit
Perfect
Competitio Identical Many Free
n
Monopolist
ic
Similar Many Free
Competitio
n
Oligopoly Similar Few Difficult

Impossib
Monopoly Poor One
le

11
Legal Restriction
Sources Licences, patents, copyrights

of Economic Advantage
Economies of scale
Monop
Unique Resource
oly Does not exist elsewhere

Power

12
Carry mi ackee go a Linstead Market
Linste Not a quattie would sell
Carry mi ackee go a Linstead Market
ad Not a quattie would sell
Why not?
Market Lawd! What a night, not a bite
What a Saturday night
Lawd! What a night, not a bite
What a Saturday night

13
Substitutes Suppliers Entry/exit
Perfect
Competitio Identical Many Free
n
Monopolist
ic
Similar Many Free
Competitio
n
Oligopoly Similar Few Difficult

Impossib
Monopoly Poor One
le

14
Substitutes Suppliers Entry/exit
Perfect
Competitio Identical Many Free
n
Monopolist
ic
Similar Many Free
Competitio
n
Oligopoly Similar Few Difficult

Impossib
Monopoly Poor One
le

15
Market Power
and Market
Outcomes
The exercise of
market power
affects market
outcomes.

17
$

AC
P

Q
18
$ Market
Power
implies
reduced
output and
AC
higher
It also allows
P prices.
for monopoly
Q profit.

19
$ The greater
the market
power, the
lower is
output,
AC
higher is
price, and
P
Q greater is
monopoly
20
In 1
Advertising and Innovation

Pursuit 2
Colluding and Merging

of
Market
Power
21
Advertising and product
innovation are
motivated by the desire
to achieve distinctive-
ness and therefore
greater market power.
22
This is
how
Apple
achieve
s
premiu
m
pricing

23
Differentiation You can recognize an Apple device in
the middle of a hundred others from a mile away. With
their distinctive casings and signature logo, Apple
products stand out. There is no apple-to-apple
comparison between them and those from competitors.
When all other companies are fighting for sales with low
price, Apple holds its ground and commands a
premium, enjoying double-digit margins on their
products while their competitors are happy to achieve
even 5 percent.
24
Since market power
yields greater profit,
there is always a
temptation to
collude or merge to
create market power.
25
Collusion
an agreement between
two or more parties
(sometimes illegal and
therefore secretive) to
limit open competition

26
Cartel
an association of suppliers
with the purpose of
maintaining prices at a
higher level than would
otherwise obtain, by
restricting competition

27
The
Organization
of Petroleum
Exporting
Countries

28
Market power

?
may result in a
higher price, but
does that mean
its bad for the
29
$
Market
Power
AC
and
P
Welfar
Q e Loss
30
$
MC Market
Power
Value
to
and
consum
er
Cost to P
Welfar
produc
er Q e Loss
Unit not
produc
ed 31
$
MC Market
Power
and
Welfar
P
Q e Loss
32
The greater the
market power, the
larger the welfare
loss.

33
This is why
governmen
ts have an
interest in
the merger
of
competitors
.
34
Fair Trading Commission

35
In 2000, the
European Union
blocked the
merger of Volvo
And Scania 36
Governme
nts
regulate
natural
monopolie
37
38
Why are
generic
drugs 39
$
PM

AC
PC
P

P
Q
QM QC
40
Price
Discrimination

41
Price
Discrimination
Charging different
prices to different
customers for the
same product

42
Consum
$ er
surplus

Premium
Price

Regular
Price

P
Q
QP QR
43
45
Requireme Market power
nts for
Price Arbitrage barrier
Discriminat
ion Means of segmentation

46
Means of 1
Subjective Evaluation (Individual)

Segmentat
ion

47
48
Means of 1Subjective Evaluation (Individual)

Segmentat
ion 2
Group Affiliation

49
50
51
Vacation
$915
Business
$395
*Kingston New York
*Caribbean Airlines

52
Means of 1Subjective Evaluation (Individual)

Segmentat
ion 2
Group Affiliation

3
Self Identification

53
54
Means of 1Subjective Evaluation (Individual)

Segmentat
ion 2
Group Affiliation

3
Self Identification

55
The Industry
in the Long
Run
The Industry in the Long
Run
$
A
P
C

Q
57
The Industry in the Long
Run
D S
$ $
A
P
C

Q Q
58
Anatomy of a Boom

Higher First, Later, new


demand existing firms enter
pushes up firms the market
price produce 59
The Tourist Hotel Sector

60
What does it cost

?
to make a box
lunch (including
normal profit)?

61
$
Over
P time,
100 profits
are
60
compete
Q d away
500 700

62
What does it cost

?
to make a box
lunch (including
normal profit)?
The price it sells for.

63
Competitive
markets tend to
have low (normal)
profit margins.

64
Market structure derives from the
1
characteristics of an industry
The degree of market power
2
varies across industries
Market power induces firms to
3
charge more and produce less,
and diminishes welfare
Sellers try to sell the same
4
product to different customers at
different prices

65

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