Www.quia.com



Models and Characteristics of an Oligopoly – Remote instructionsStep 1: Read Modules 64 and 66 in the textbook. Step 2: Read through and fill out notes provided below. Additional teacher points following along note sheet:The last market structure does not have a specific model all to its own. The problem is that the market could be tight or loose. Plus, it is highly interdependent, which in many cases leads to game theory. I have provided you with three different models, but we are only going to focus on the first one under the circumstances of remote learning (the other two will not be on the AP exam). What is most convenient with the Cartel Model is it looks exactly like the monopoly model. How does it work? If all the firms in the market can successfully collude, then the firms would produce at the monopoly price and quantity with an agreement of profit sharing between all firms. The main issue for cartel success is that firms could cheat and create a price war where firms would be producing at a lower point on the demand curve. How might you have to answer a free response question regarding this market structure? The question would indicate that a cartel is present in the market, which would then prompt you to draw a monopoly model. Follow up questions: In the short run, firms would produce at the monopoly price and quantity (MR=MC). In the long run, firms might cheat causing price to decrease and quantity to increase. The government might also regulate the market (anti-trust laws) forcing the firms to produce closer to the socially efficient point (P=MC). OPEC is a historical example, but another modern-day example is the Cocoa cartel. Check out the following article: next section of the note sheet has you review the characteristics, which is helpful in understanding the model and firm behavior.Few firms with either homogeneous or differentiated productIndustry (number of firms)4 Firm Concentration RatioHerfindahl-Hirschman IndexCigarettes (9)93%Not disclosedPrimary copper (10)98%2827Glass bottles and jars (11)84%2960Washing machines and dryers (10)82%2870Batteries (35)82%2883Light Bulbs (54)86%2702Breakfast Cereal (48)85%2446House Slippers (22)81%2053Automobiles (173)80%2350Chocolate (373)78%2567Price fixing and collusion become more viable because of the small number of firms. There are still many obstacles and in the long run most collusive behavior is not successful. When comparing monopolistic competition and oligopolies, barriers of entry and exit is a major difference. It is very difficult to enter this type of market because of barriers (i.e. Airplane companies having lease agreements at airports). Firms already in the market might even use their excess capacity in order to drive out firms or prevent firms from entering. As a firm increases production (floods the market), the prices are decreased well below cost of production (predatory pricing). The firm has this excess capacity because of economies of scale, but would not normally choose to increase production because the firm is focused on profit maximization.This market structure also has considerable “non-price competition”:Differentiation: Disney has been very successful differentiating product to capture market share.Costs and Technology: Verizon Goes Agent Zero – “While you’re busy cutting cords, Verizon is cutting costs. Your customer service rep of last resort will try shedding $10 billion in expenses by 2021. Heated competition from AT&T and T-Mobile has the nation’s largest wireless carrier offering unlimited data packages that have hurt its top line. And of course, Verizon’s push to 5G could add up to $18 billion in CapEx. So what’s the plan? It’s a strategy called zero-based budgeting, which requires business units to justify every dollar they plan on spending in the coming 12 months (rather than going off last year’s expenses). And this tactic has proven useful. Companies from Coca-Cola to Kraft-Heinz have nixed thousands of unnecessary jobs, closed useless factories, and put corporate jets up for sale all on the strength of a zero-based budget.” This strategy was useful in 2019, not sure it is going to work in 2020.Advertising: The automobile industry spent $5.6 million for 30 seconds to advertise during the Superbowl. Check out the following article: : With nearly 12,000 locations in 36 countries, Dunkin' is one of the largest coffee and baked goods chains in the world. This number of locations lends well to the company’s advertisement campaign – “America runs on dunkin”Service: Forbes published a list of top companies regarding service - last part of the note sheet focuses on the key feature of the Oligopolistic market structure. You have to understand that interdependence between firms creates this tension between cooperation and self-interest. If one firm decides to raise wages for its employees because of the pandemic, the other firms in many cases have to raise their employee wages as well. What if all the firms agree to not raise their wages? It would be better for all of the firms’ bottom line. However, once one firm makes a decision to not collude and raise wages – the other firms have to respond. This is where game theory becomes important and what we will spend the rest of unit 9 focused on. If you have seen “The Big Short”, there is a great scene about how S&Ps had no choice but to provide more favorable ratings on certain securities based on the fact that the other two companies were doing the same. The best line in response to that behavior is by Steve Carell, “What are you four?”Step 3: Practice questions on quia and in your textbook to review what you have learned.Models and Characteristics of an OligopolyCartel ModelPrice Leadership ModelWhat are the characteristics of an Oligopoly?Besides price, how do these firms compete with each other?What is the key feature of this market structure?NOTESModelWhy not a single model, as in our discussions of the other market structures?Diversity of OligopoliesTight 2 or 3 dominate firms is entire marketLoose 6 or 7 control 75% of market, while the “competitive fringe” controls the remainderComplications of interdependence – hard to predict the reactions of rival firms.Cartel Model – collusion where the firms act in unison, functioning just like a monopoly would, and maximize profit and creating deadweight loss (P > MC)If the firms in this market form a cartel, then they would proceed to produce at the monopoly price and quantity. Overt (OPEC) and Covert (Tacit understanding – gentleman’s agreement)Not stable because incentives of firms can be different than incentives of group. (Game theory/cheating)If cartels are blocked through Anti-trust policy, then they would produce somewhere between MR=MC (Monopoly Profit Maximization point) and P=MC (Socially Efficiency point)Kinked Demand Model – The kinked demand curve model developed first by the economist Paul Sweezy assumes that a business might face a dual demand curve for its product based on the likely reactions of other firms in the market to a change in its price or another variable. The common assumption of the theory is that firms in an oligopoly are looking to protect and maintain their market share and that rival firms are unlikely to match another’s price increase but may match a price fall. I.e. rival firms within an oligopoly react asymmetrically to a change in the price of another firm. Airlines is a good example. Raising prices is not successful to cover increasing costs, but some are focusing on fees and differentiation. (Cartoon charging customers for oxygen masks)Price Leadership model – Dominate firm determines (like a monopoly) and then the other firms follow choosing a similar price. Although sometimes there are cost differences, slightly lower (generic drug) or slightly higher (unique toy). These firms do not affect dominate firm. (refer to Price leadership explanation notesheet)What advantage does the dominant firm get with keeping small firms in the market?Less regulation, reduced costsCharacteristics (some of these ideas are review based on a general discussion about all characteristics of the four market structures)Few Firms – 2 or more firms, but not as much compared to Monopolistic Competition Homogeneous and Differentiated products (Show Visual #4 and Tables)Price Fixing – a type of implicit understanding by which oligopolists can coordinate prices without engaging in outright collusion based on formal agreements or secret meetings. Anti-trust laws prevent cartels and collusion)Collusive Behavior is to ensure economic profit for all participating firms.Obstacles of Collusion Demand and cost differences, Entry/exit impacts # of firms, potential cheating, recession, etc.Anti-Trust lawsCanadian authorities have charged Nestle, Mars, and Hershey with conspiring to fix the price of chocolate in Canada. Authorities say senior chocolate executives from rival firms met secretly in coffee shops and restaurants to set prices. Cadbury was the whistle blower and is not being charged. Hershey is cooperating and Mars/Nestle are fighting it in court. Fines could reach up to 10 million per firm.2011 Colgate, P&G, Unilever, Henkel were using code names in communication to fix prices in 8 European countries. Penalty $500 million.Entry Deterrence (barriers) – reduce competition by preventing other firms from entering or stayingPredatory pricing – limit pricing to discourage new firms from enteringExcess Capacity allows firms to be predatoryCase against American Airlines in 1999 – AA would slash prices and increase the number of flights, in an attempt to drive the entrant out of the market. As soon as the competitor left, prices and flights went back to original levels.How to know if firm is predatory? P < AVC, P < MC Asymmetrical Information (you’ve got mail clip – caviar garnish)Control of ResourcesGovernment Policies (Show Visual #5)Economists disagree that the following is bad:Resale Price Maintenance –consistent retail pricing set by manufacturer Tying – 2 products are required to be purchased togetherPrice Wars (i.e. Price Match Guarantees)When firms do not compete together with lower prices, they compete with:Differentiation – (Coke - Diet soda; Milk, Spotify, Kohls)Costs and technology (Fintech, Verizon costs)Advertising – Ivory soapLocation – AT&TService – (Airline layout and fees)Price Discrimination – discussed earlier (talk about article “How low can you go?)Game Theory – competition turns into a gameKey Feature of Oligopolies:Tension between cooperation and self-interest (Interdependence)Better to cooperate and act like a monopolyCare about profit, incentive to act on self-interestKey difference that distinguishes monopolistic competition and oligopoliesReal Life Example: Rating Agencies – talk about article “Over-Rated”(S&Ps, Moody’s, Fitch) control 97% of the market. 2011 increased fees by 5% and possibly caused 2008 recession with asymmetrical information (Big Short) ................
................

In order to avoid copyright disputes, this page is only a partial summary.

Google Online Preview   Download