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Chapter 11Chapter 11

Price Searcher Markets with Price Searcher Markets with High Entry BarriersHigh Entry Barriers

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OverviewOverview

Causes of high barriers to entryCauses of high barriers to entry MonopoliesMonopolies Analyzing the monopoly graphAnalyzing the monopoly graph OligopoliesOligopolies Game theory (collusion vs. cheating)Game theory (collusion vs. cheating) Problems of markets with high Problems of markets with high

barriers to entrybarriers to entry Problems with regulationProblems with regulation

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High Barriers to EntryHigh Barriers to Entry

What causes high barriers to entry:What causes high barriers to entry:

1. Economies of scale1. Economies of scale

2. Government licensing and other 2. Government licensing and other legal barriers to entrylegal barriers to entry

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High Barriers to EntryHigh Barriers to Entry

3. Patents3. Patents

4. Control over an essential resource4. Control over an essential resource

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MonopolyMonopoly

A monopoly is a market characterized A monopoly is a market characterized by:by:

1. High barriers to entry1. High barriers to entry

2. A single seller of a well-defined 2. A single seller of a well-defined product that has no good product that has no good substitutessubstitutes

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MonopolyMonopoly

The demand curve for a monopolist is The demand curve for a monopolist is the market demand curve (D).the market demand curve (D).

A monopolist maximizes profits by A monopolist maximizes profits by producing where MR=MC.producing where MR=MC.

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MonopolyMonopoly

*With high barriers to entry, a *With high barriers to entry, a monopoly can continue to make an monopoly can continue to make an economic profit*economic profit*

Is it possible for a monopoly to make Is it possible for a monopoly to make an economic loss?an economic loss?

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OligopolyOligopoly

OligopolyOligopoly: a market that consists of a : a market that consists of a small number of sellerssmall number of sellers

Ex. automobiles, crude oil, tennis balls, Ex. automobiles, crude oil, tennis balls, etc. etc.

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OligopolyOligopoly

The characteristics of an oligopoly are:The characteristics of an oligopoly are:

1.1. A small number of rival firmsA small number of rival firms

2.2. Interdependence among the sellersInterdependence among the sellers

3.3. High barriers to entry in the marketHigh barriers to entry in the market (Substantial economies of scale)(Substantial economies of scale)

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Prisoner’s DilemmaPrisoner’s Dilemma

The Prisoners Dilemma….The Prisoners Dilemma….

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Prisoner’s DilemmaPrisoner’s Dilemma

Dominant Strategy: Dominant Strategy: A strategy that A strategy that is best for a player in a game is best for a player in a game regardless of the strategies chosen regardless of the strategies chosen by other playersby other players

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Game theoryGame theory

Game theoryGame theory: the analysis of : the analysis of strategic choices made by strategic choices made by competitors in a conflict situation.competitors in a conflict situation.

Real life applications:Real life applications:

Ex. Group work for classesEx. Group work for classes

Ex. Shoveling a communal drivewayEx. Shoveling a communal driveway

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Classic Example of Game TheoryClassic Example of Game Theory

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Repeated GamesRepeated Games

Over time and repeated play, people Over time and repeated play, people are more likely to cooperateare more likely to cooperate

Tit-for-tat: cooperate for the first 2 Tit-for-tat: cooperate for the first 2 rounds, and then do whatever the rounds, and then do whatever the other player did in the last roundother player did in the last round

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CollusionCollusion

CollusionCollusion: the agreement among : the agreement among firms to avoid competitive practices. firms to avoid competitive practices.

Firms will agree to limit output and Firms will agree to limit output and keep prices high. keep prices high.

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Oligopoly Prices and ProfitsOligopoly Prices and Profits

Competitive Price ≤ Oligopoly Price ≤ Monopoly Competitive Price ≤ Oligopoly Price ≤ Monopoly PricePrice

1. Firms collude: price will be closer to 1. Firms collude: price will be closer to monopoly price.monopoly price.

2. Firms cheat: price will be closer to 2. Firms cheat: price will be closer to competitive price.competitive price.

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Obstacles to CollusionObstacles to Collusion

1.1. Collusion is more difficult the more Collusion is more difficult the more firms there are in the market.firms there are in the market.

2.2. It is difficult to detect and eliminate It is difficult to detect and eliminate price cutsprice cuts

3.3. Low barriers to entryLow barriers to entry

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Obstacles to CollusionObstacles to Collusion

4. Unstable Demand Conditions4. Unstable Demand Conditions

5. Antitrust laws5. Antitrust laws

A. Sherman Antitrust Act (1890)A. Sherman Antitrust Act (1890)

B. Clayton Act (1914)B. Clayton Act (1914)

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Problems with High Barriers to Problems with High Barriers to EntryEntry

1. The discipline of market forces is 1. The discipline of market forces is weakenedweakened

2. Reduced competition results in 2. Reduced competition results in inefficiencyinefficiency

3. Resources will be wasted by firms 3. Resources will be wasted by firms attempting to maintain grants of attempting to maintain grants of protectionprotection

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Potential Solutions to High Barriers Potential Solutions to High Barriers to Entryto Entry

1. Antitrust legislation1. Antitrust legislation

2. Reduce artificial barriers that limit 2. Reduce artificial barriers that limit competitioncompetition

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Potential Solutions to High Barriers Potential Solutions to High Barriers to Entryto Entry

3. Regulate the price and output of 3. Regulate the price and output of firms in the marketfirms in the market

Does not work because:Does not work because:A.A. Lack of InformationLack of InformationB.B. Cost ShiftingCost ShiftingC.C. Regulators may become biasedRegulators may become biased

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Potential Solutions to High Barriers Potential Solutions to High Barriers to Entryto Entry

4. Government produces the goods 4. Government produces the goods and services instead of the private and services instead of the private sectorsector

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ReviewReview

1.1. Know what we mean by high barriers Know what we mean by high barriers to entry and how it relates to a to entry and how it relates to a monopoly.monopoly.

2.2. Understand the monopoly graph and Understand the monopoly graph and what happens in the long-run.what happens in the long-run.

3.3. Understand the characteristics of an Understand the characteristics of an oligopoly.oligopoly.

4.4. Know the concept of the prisoner’s Know the concept of the prisoner’s dilemma game and game theorydilemma game and game theory

5.5. Understand the obstacles to collusionUnderstand the obstacles to collusion

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ReviewReview

6. Know why high barriers to entry can 6. Know why high barriers to entry can be problematic.be problematic.

7. Understand the potential solutions 7. Understand the potential solutions for high barriers to entry.for high barriers to entry.