MARKET STRUCTURES AND FAILURES

Economics

Important Terminology

Market Structure Perfect Competition Monopoly Oligopoly Monopolistic Competition Market Failure Externality Public Goods

Cell Phone Service Market

Think about the market for phone service---how would you describe it?

Is it open? Is it fair? Are there any penalties for anything? Do you think there is such a thing as a

“cell phone jail?”

Cell Phone Industry

There are penalties for cancelling contracts to move to a different provider---may increase overall cost

Service companies may raise rates just because…how many of us change service providers?

Do you always go out and get the cheapest plan? Can you? Do you reward the most efficient company?

Imagine not being able to change grocery stores without penalties? Is that fair?

Cell phone industry

So how can cell phone providers get away with this?

2007—only a few major companies All behaved the same

What about free market economics? Not all industries and markets are

equally competitive

Characteristics of Market Structure Market Structure

Organization of a market, based on degree of competition among producers

Four Main Characteristics Number of Producers Similarity of Products Ease of Entry Control over Prices

Market Power---ability to influence prices

Perfect Competition (i.e., Milk Industry)

Many Producers, Identical Products All goods sold at equilibrium price Most efficient---it allocates resources to those

who value them the most Characteristics

Many producers and consumers Identical Products---commodity (i.e., grains,

cotton, sugar) Easy entry into market No control over prices---producers are Price

Takers

What can limit competition?

Barriers to entry High start up costs Control of Resources Technology Education levels required

Benefits of competition Forces producers to be efficient Consumers never overpay

Monopoly (Microsoft)

Imperfect Competition Producers have control over prices of

products One Producer, a Unique Product Characteristics

One Producer Unique Product High Barriers to Entry Substantial Control over Prices----Price

Setters Pure monopoly rare---Trusts, Anti-Trust

laws

Three types of Legal Monopolies Resource Monopolies Government Created Monopolies

In the public interest Patents and copyrights Public franchise---sole right to a firm to provide a

good or service, i.e. National Park Service to companies to provide food or lodging in national parks

Licenses---legal permit to operate business in a market

Natural monopolies---economies of scale, i.e. Utilities

Oligopoly

Few Producers, Similar Products Market dominated by few firms Arise out of economies of scale

Examples: Airlines, cars, soft drinks, light bulbs, tennis balls, and large passenger jets

Characteristics Few Producers Similar Products High Barriers to Entry Some control over Prices

Behavior of Oligopolies

Price Leadership Dominant firm sets a price, others follow

Collusion Firms get together and make agreements

on production and pricing Cartel formation

OPEC

Monopolistic Competition

The one we most encounter Restaurants, gas stations, clothing stores

Characteristics Many Producers Differentiated Products Few Barriers to Entry Some control over Prices

Brands, Brand Loyalty Non Price Competition---Advertising, Differentiation

Physical characteristics, Service, Location, and Status/Image

Market Failures

What is a market failure? Not allocating goods/services in the most efficient way

Externalities and Public Goods are evidence of failures

Externality Side effect of production/consumption that has

consequences for others Positive and Negative---Cost or Benefit on someone

else Failure because they do not take into account all costs

of production and benefits to consumers into model of supply and demand

Public Goods

Goods and services that are not provided by the market system because of the difficulty of getting people who use them to pay for their use

Examples: Fire and police services National Defense Public Parks

Free Rider Problem