INDUSTRIAL ORGANIZATION - GBV
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INDUSTRIAL ORGANIZATION Theory and Practice Second Edition Don E. Waldman Colgate University Elizabeth J. Jensen Hamilton College Boston San Francisco New York London Toronto Sydney Tokyo Singapore Madrid Mexico City Munich Paris Cape Town Hong Kong Montreal
Transcript of INDUSTRIAL ORGANIZATION - GBV
INDUSTRIAL ORGANIZATION
Theory and Practice Second Edition
Don E. Waldman
Colgate University
Elizabeth J. Jensen
Hamilton College
Boston San Francisco New York London Toronto Sydney Tokyo Singapore Madrid
Mexico City Munich Paris Cape Town Hong Kong Montreal
CONTENTS
PREFACE
THE BASICS OF INDUSTRIAL ORGANIZATION Chapter 1
INTRODUCTION 3 Two Approaches to the Study of Industrial Organization 5
The Structure-Conduct-Performance (SCPj Approach 5
The Chicago School Approach 8
Static versus Dynamic Models 9
Theory and Empiricism 9
Government and Industrial Organization 10
The Global Economy and Industrial Organization 10
General Approach of This Book 10
Summary 11
Chapter 2
BASIC THEORY 14 The Profit-Maximizing Output Level 15
Cost Concepts 16
Accounting Costs versus Economic Costs 16
Short-Run Costs of Production 17
Long-Run Cosfs of Production 21
Sources of Economies of Scale 23
Sources of Diseconomies of Scale 24
The Short Run and Long Run Revisited 25
The Economics of Perfect Competition 26
The Assumptions of Perfect Competition 27
The Firm's Supply Curve 29
The Market Supply Curve and Equilibrium 31
Properties of Competitive Equilibrium 33
Introduction to Weifare Economics 34
An Application of Consumer and Producer Surplus 35
The Basic Theory of Gains from Trade 35
The Economics of Monopoly 37
The Relationship Between Marginal Revenue and Price 37
Elasficities, the Degree of Market Power, and the Lerner Index 40
Weifare Comparison 41
Measurement of the Costs of Market Power 42
The Economics of Monopolistic Competition 4 4
Cautions 46
Statistical Tools 4 7
Summary 51
Chapter 3
ALTERNATIVE THEORIES OF FIRM BEHAVIOR The Neoclassical Firm 58
The Theory of the Firm 59
A Firm's Boundaries 60
The Structure of Modern Firms 63
Separation of Ownership and Control 64
Managerial Objectives 64
Feasibility of Profit Maximization 68
Constraints on Managers 71
Empirical Evidence 73
Do Firms Use Price to Clear Markets? 75
The Administered Price Hypothesis 76
The Leading Theories 78
Theories of Some Importance 80
Theories with No Significance in Explaining Price Stickiness 81
Summary 82
Contents xi
Chapter 4
MARKET CONCENTRATION 90 Aggregate Concentration 91
Trends in Aggregate Concentration 92
Turnover and Mobility Among the Largest Firms 93
Concentration in Individual Markets 94
Structure-Based Measures 94
Definition of the Relevant Market 97
Mergers 102
Merger History 102
Motives for Merger 1 05
The Effects of Mergers on Competition and Welfare 107
Empirical Evidence of the Effects of Mergers I I 1
Market Concentration: Levels and Trends 113
Concentration in Manufacturing I 13
Concentration in Nonmanufacturing Industries 116
Summary 119
Chapter 5
ENTRYANDEXIT 126 Patterns of Entry and Exit 126
Entry 127 Barriers to Entry 128
Static or Structural Barriers to Entry 129
Economies of Scale 129
Empirical Estimates of Economies of Scale 132
Applying the Theory of Economies of Scale to International Trade 135
A Related Theoretical Development: Economies of Scope 137
Absolute Cost Advantages 139
Capital Costs 141
Product Differentiation 143
Incentives to Enter 146
Expected Profitability 146
Market Growth 147
Empirical Evidence on Entry 147
Exit 152
Barriers to Exit 152
Incentives to Exit 152
Empirical Evidence on Exit 153
xii Contents
The Interaction of Entry and Exit 153
Another Recent Theoretical Development: Contestable Markets 154
Summary 158
Parti. MODERN INDUSTRIAL ORGANIZATION: GAME THEORY AND STRATEGIC BEHAVIOR 165 Chapter 6
GAME THEORY: A FRAMEWORK FOR UNDERSTANDING OLIGOPOLISTIC BEHAVIOR 167 What Is Game Theory? 168
Simple Zero-Sum Games 168
The Information Structure of Games 170
Prisoner's Dilemma Games 171
Repeated Games 172
Games of Mixed Strategies 173
Sequential Games 177
Summary 179
Chapter 7
THE DEVELOPMENT OF OLIGOPOLY THEORY 183 Models Based on Quantity Determination 183
The Cournot Model 183
Cournot-Nash Model with More Than Two Firms 193
Empirical Evidence of Cournot-Nash Behavior 195
Using the Cournot-Nash Model in the Context of International Trade 196
The Effectiveness of Industrial Policy 202
The Stackeiberg Model 204
Models Based on Price Determination 210
The Bertrand Model 210
Dominant Firm Price Leadership Model 212
Empirical Evidence of the Decline of Dominant Firm Price Leaders 217
The Case of a Dominant Domestic Firm and a Group of Small Foreign Firms 218
Empirical Examples 221
Summary 223
Contents xiii
Chapter 8
COLLUSION: THE GREAT PRISONER'S DILEMMA 228 Prisoner's Dilemma Revisited 229
Present Value and Discounting 230
A Real World Example of "Nice" Behavior in Response to Random or "Accidental" Defections 236
Another Strategy for Maintaining Effective Collusion: Trigger Price Strategies 237
Collusive Agreements as Viewed by One Firm in a Cartel 238
Factors Affecting the Ease or Difficulty of Effective Collusion 246
Number of Firms 246
Concentration 246
Rate of Technological Change 247
Demand Growth and Elasticity 247
Frequency of Sales 248
Summary 248
Chapter 9
COLLUSION IN THE REAL WORLD: METHODS OF ACHIEVING EFFECTIVE COLLUSION 253 Attempted Methods of Achieving Effective Collusion 253
Dominant Firm Price Leader and Benefactor 253
Price Leadership 256
Most Favored Customer Clauses and "Low Price" Guarantees 261
Basing Point Pricing Systems 262
Trade and Professional Associations 265
Schemes to Divide Markets 266
Patent Cartels 268
How Successful Are the Solutions? 270
Excess Capacity Problems 270
Encroachment of Substitute Products 273
Summary 273
Chapter 10
OLIGOPOLY BEHAVIOR: ENTRY AND PRICING TODETERENTRY 278 Limit Pricing 278
Limit Pricing with a Cost Advantage for the Incumbent Firm 278
Limit Pricing in the Absence of a Cost Advantage for the Incumbent Firm 283
The Critique of Game Theorists 286
Empirical Evidence of Limit Pricing 291
Predatory Pricing 294
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Empirical Evidence: Predatory Pricing and Building a Tough Reputation 2 9 7
Early Examples: Standard Oil and American Tobacco 297
Maxwell House Coffee 298
Airlines 299
Wal-Mart 301
Summary 302
Appendix A: Limit Pricing Revisited, or Can Limit Pricing Theory Be Saved? 307
Appendix B: Details of the Kreps and Wilson Predatory Pricing Model 312
Chapter 11
OLIGOPOLY BEHAVIOR: ENTRY AND NONPRICING STRATEGIES TO DETER ENTRY 31 8 Excess Capacity 31 8
Empirical Evidence 320
Raising Rivals' Costs 323
Empirical Evidence on Raising Rivals' Costs Through Advertising and First Mover Advantages 325
Learning by Doing 328
Empirical Evidence on Learning by Doing 330
Product Proliferation 334
Empirical Evidence on the Use of Product Proliferation 334
Empirical Evidence on the Use of Price and Nonprice Strategies to Deter Entry 339
Summary 341
Appendix: Product Proliferation Revisited 346
Part IM BUSINESS PRACTICES Chapter 12
PRODUCT DIFFERENTIATION AND ADVERTISING 357 Forms of Product Differentiation 357
Theoretical Analysis of Product Differentiation 359
The Potential Impact of Product Differentiation on Price: The Bertrand Model Revisited 359
The Optimal Amount of Variety: Monopolistic Competition Revisited 361
The Waldman Ice Cream Truck Revisited: An Example of Inefficient Product Differentiation 366
The Social Benefits and Costs of Advertising 369
The Social Benefits of Advertising 369
The Social Costs of Advertising 369
Advertising and Market Structure 373
The Dorfman-Steiner Model 373
Advertising and Oligopoly Behavior 373
The Product Differentiation Advantages of First Movers 379
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Contents xv
Advertising as a Barrier to Entry 384
Strategie Advantages of Heavily Advertised Brands 385
Product Differentiation and Increased Competition 386
Empirical Evidence 386
Summary 390
Chapter 13
TECHNOLOGICAL CHANGE AND RESEARCH AND DEVELOPMENT 396 Schumpeter and the Process of "Creative Destruction" 396
The Process of Technological Change 399
The Relationship Between Market Structure, Firm Size, and Technological Advance 399
The Impact of Oligopoly 40 1
Dominant Firms as Fast-Second Innovators 406
A Contribution of Game Theory 408
The Impact of Firm Size 410
Empirical Evidence 412
Measurement Issues 413
Testing Schumpeter's Hypotheses 414
Firm Size and Inventive Effort 414
Firm Size and Inventive Output 416
Remaining Questions 416
Market Structure and Inventive Activity 417
Summary of Empirical Work on the Schumpeterian Hypotheses 418
The Economics of the Patent System 418
Scenario 1 419
Scenario 2 419
Scenario 3 420
Empirical Evidence on the Impact of Patents 422
Summary 428
Appendix: Game Theory and Patent Races 433
Chapter 14
PRICE DISCRIMINATION 436 Types of Price Discrimination 4 3 7
Weifare Effects of Price Discrimination 4 4 0
Two-Part Tariffs, Tying, and Bundling 445
Two-Part Tariffs 445
The Weifare Effects of a Two-Part Tariff 448
Bundling 449
Requirements Tie-in Sales 454
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Distribution Effects of Price Discrimination 455
Effect on Competition 456
Examples of Price Discrimination 459
Make-Them-Pay-for-the-Label Discrimination 459
Keep-Them-in-Their-Zones Discrimination 459
Dump-the-Surplus Discrimination 460
Sort-by-Time-Value Discrimination 460
Clear-the-Stock Discrimination 461
Keep-Them-Loyal Discrimination 46I
Summary 461
Appendix: The Weifare Implications of Price Discrimination with Nonlinear Demand 466
Chapter 15
VERTICAL INTEGRATION AND VERTICAL RELATIONSHIPS 468 Vertical Relationships as a Solution to Economic Problems 468
The Problem of Double Marginalization 468
Alternative Methods of Achieving Joint Profit Maximization 4 7 2
The Problem of Insufficient Promotional Services 472
The Problem of Input Substitution 475
The Competitive Effects of Vertical Relationships 476
Resale Price Maintenance Agreements 476
Strategie Use of Vertical Restraints and Integration 480
Raising the Capital Barrier to Entry 482
Collusion and Vertical Integration 483
Foreclosure 484
Summary 485
Appendix: The Problem of Input Substitution 4 9 0
Chapter 16
MARKET POWER AND PERFORMANCE: THE EMPIRICAL EVIDENCE 494 Structure-Conduct-Performance 495
Measurement Issues 495
Measures of Performance 496
Measures of Market Structure 503
Early Structure-Conduct-Performance Studies 505
Econometric Studies 5 0 7
Concentrafion and Profitability: Evidence from Industry-Level Studies 507
Effects of Other Elements of Market Power Profits 509
Conceptual Problems with SCP Studies 51 /
Contents xvii
Prices and Concentration 516
The New Empirical Industrial Organization 5 1 7
Summary 519
Chapter 17
USING THE TOOLS: A CASE STUDY OF THE COMPUTER INDUSTRY 527 History 5 2 7
Market Structure 531
Market Shares and Concentration 531
Entry Barriers 533
Conduct 536
IBM's Early Conduct 536
Microsoft 451
Performance 544
Static Efficiency 544
Dynamic Efficiency 546
Public Policy Issues 5 4 7
Antitrust Policy 547
Copyright Protection for Software 550
Summary 551
Part.v PUBLIC POLICY: ANTITRUST AND REGULATION 555 Chapter 18
ANTITRUST: THE LAWS AND POLICY TOWARD MARKET POWER AND COLLUSION 557 The Content of the Antitrust Laws 558
Enforcement Procedura 561
Remedies 561
Policy Toward Monopolization 562
Early Cases 562
The Alcoa Era 563
Recent Trends in Section 2 Cases 565
Overt Price Fixing Agreements 569
Public Policy Toward Direct Price Fixing Agreements 572
The per se Rule versus the Rule of Reason 573
Price-Exchange Agreements 573
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Oligopolistic Behavior—Conscious Parallelism 5 7 4
Trade Associations 577
The Professions 578
Nonprofit Organizations: Cases Involving Colleges and Universities 5 8 0
Patents and Section 1 of the Sherman Act 582
Summary 584
Chapter 19
ANTITRUST: INTERPRETATION OF THE CLAYTON ACT AND ITS AMENDMENTS 590 Public Policy Toward Mergers 5 9 0
Horizontal Mergers: Policy Before 1950 590
Horizontal Mergers: The Celler-Kefauver Act of 1950 591
Vertical Mergers 594
Conglomerate Mergers 596
Merger Guidelines and the Hart-Scott-Rodino Act 598
Antitrust: Price Discrimination and the Robinson-Patman Act 601
Secondary-Line Cases 602
Primary-Line Cases 607
lllegaliy Induced Price Discrimination 610
Antitrust: Public Policy Toward Vertical Restraints of Trade and Group Boycotts 611
Tying Agreements 612
Exclusive Dealing Agreements 615
Territorial and Customer Restrictions 617
Resale Price Maintenance Agreements 619
Summary 622
Chapter 20
REGULATION AND DEREGULATION 630 The Rationale for Regulation: Traditional Public Utility Regulation 630
The Workings of American Regulation 632
Setting the Permitted Rate of Return 633
Efficiency Problems Associated with Rate of Return Regulation 635
X-inefficiency 635
The Averch-Johnson Effect 635
Setting the Price Structure 639
The Spread of Regulation into Other Markets 641
The Capture Theory of Regulation 641
Contents xix
The Movement from Regulation to Deregulation 643
Surface Transportation 643
Airline Regulation and Deregulation 645
Regulation of Telecommunications and Broadcasting 648
Electricity 652
Natural Gas Industry 653
Summary 654
GLOSSARY 661
ANSWERS TO ODD-NUMBERED PROBLEMS 675
INDEX 695
CREDITS 726
