Lecture 4(a) Competition and Monopoly. Why Bother? The first part of this course looked at the...
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Transcript of Lecture 4(a) Competition and Monopoly. Why Bother? The first part of this course looked at the...
Lecture 4(a) Lecture 4(a) Competition and Competition and
MonopolyMonopoly
Why Bother?
The first part of this course looked at the motivation and calculation of individual consumers and producers. Now we need to examine how these groups interact in a marketplace.
The actual models are so unrealistic as to border on the absurd, but they provide a kind of a benchmark against which we can judge markets in the real world.
What Would a Perfectly What Would a Perfectly Competitive Market Look Competitive Market Look
Like?Like? Many Buyers and Sellers, of more or less the Many Buyers and Sellers, of more or less the
same size.same size. No Walmarts or Dept. of DefenseNo Walmarts or Dept. of Defense
Homogenous ProductHomogenous Product Meaning the output of one firm is indistinguishable Meaning the output of one firm is indistinguishable
from that of another (i.e., a commodity)from that of another (i.e., a commodity) Perfect Information (about prices and costs)Perfect Information (about prices and costs) No Entry Barriers (we’ll have to think more No Entry Barriers (we’ll have to think more
carefully about exactly what this means later). carefully about exactly what this means later).
Firm Demand is Perfectly Firm Demand is Perfectly Elastic (that is, firms are Elastic (that is, firms are
price takers)price takers)Market Demand
P
Q
Firm Demand
All This Really Means Is All This Really Means Is That MR=PThat MR=P
This makes perfect sense: the firm This makes perfect sense: the firm doesn’t have to cut price in order to doesn’t have to cut price in order to sell more. Thus, every added unit sell more. Thus, every added unit sold increases revenue by the price sold increases revenue by the price of the good.of the good.
Of course if you like calculus:Of course if you like calculus:
R = Pq and so R = Pq and so
MR = dR/dq = PMR = dR/dq = P
The Next Step is Describe What an The Next Step is Describe What an Equilibrium Will Look Like in a Equilibrium Will Look Like in a
Competitive MarketCompetitive Market An “equilibrium” is defined in economics (and An “equilibrium” is defined in economics (and
most other sciences) as a state of the world in most other sciences) as a state of the world in which none of the relevant variables will have a which none of the relevant variables will have a tendency to change. tendency to change.
In analyzing markets it is useful to distinguish In analyzing markets it is useful to distinguish between “short run” equilibrium and “long run” between “short run” equilibrium and “long run” equilibrium.equilibrium. The short run describes a period of time that is too The short run describes a period of time that is too
short for new firms to enter the market or for existing short for new firms to enter the market or for existing firms to make significant adjustments to their firms to make significant adjustments to their productive capacity. (Think about how that fits in with productive capacity. (Think about how that fits in with the discussion of fixed costs and time from the the discussion of fixed costs and time from the previous lecture.)previous lecture.)
The long run refers to a time period sufficiently long The long run refers to a time period sufficiently long to permit new entry (or exit) and maybe capacity to permit new entry (or exit) and maybe capacity adjustment.adjustment.
Short Run Equilibrium Part I: How Much Short Run Equilibrium Part I: How Much Does a Typical Firm Produce?Does a Typical Firm Produce?
(Obvious Answer: The q such that MC=MR=P(Obvious Answer: The q such that MC=MR=P
Firm Demand
P
MC
q
Short Run Equilibrium Part II: Short Run Short Run Equilibrium Part II: Short Run SupplySupply
MC
Po
Firm Demand
qo
Market Supply With N Firms
Nqoq1
P1
Nq1
The “supply curve” is
really just a reflection of MC
Short Run Equilibrium Part III: Putting It All Short Run Equilibrium Part III: Putting It All TogetherTogether
MC
Po
Firm Demand
qo
Market Supply With N Firms
Nqo
Supply
Demand
Think About Why This is
Equilibrium
Short Run Equilibrium IV: Short Run Equilibrium IV: Summing UpSumming Up
A Short Run Equilibrium is A Short Run Equilibrium is Characterized byCharacterized by
P=MR=MCP=MR=MC ““Market Clearing Prices” (i.e., Market Clearing Prices” (i.e.,
Quantity Demanded = Quantity Quantity Demanded = Quantity SuppliedSupplied
Long Run Equilibrium I: Long Run Equilibrium I: What Does it MeanWhat Does it Mean
Since the defining characteristic of Since the defining characteristic of the “short run” was the assumption the “short run” was the assumption of no entry, the “long run” will be of no entry, the “long run” will be defined as the period of time long defined as the period of time long enough for firms to enter (or change enough for firms to enter (or change scale).scale).
This means we need to ask about This means we need to ask about profits.profits.
This Can’t Happen in the Long RunThis Can’t Happen in the Long Run
MC
Po
Firm Demand
qo
Market Supply With N Firms
Nqo
Supply
Demand
AC Positive
Profits
So What Would Happen in the Long Run With So What Would Happen in the Long Run With Positive Profits?Positive Profits?
MC
Po
Firm Demand
qo
Market Supply With N Firms
Nqo
Supply
Demand
AC Positive
Profits
Entry and
Lower Price
What Would Happen in the Long Run If There What Would Happen in the Long Run If There Were Negative Profits?Were Negative Profits?
MC
Po
Firm Demand
qo
Market Supply With N Firms
Nqo
Supply
Demand
AC
Exit and Higher Price
Loss
The Long Run EquilibriumThe Long Run Equilibrium
MC
Po
Firm Demand
qo
Market Supply With N Firms
Nqo
Supply
Demand
AC
No (economic) profit or loss
Long Run Equilibrium: Long Run Equilibrium: Summing UpSumming Up
A Short Run Equilibrium is A Short Run Equilibrium is Characterized byCharacterized by
P=MR=MCP=MR=MC ““Market Clearing Prices” (i.e., Market Clearing Prices” (i.e.,
Quantity Demanded = Quantity Quantity Demanded = Quantity Supplied)Supplied)
No (economic) profits or loss No (economic) profits or loss (P=AC(P=ACminmin))
Issue: Can You Make Issue: Can You Make Money (i.e., earn positive Money (i.e., earn positive
economic profits) In a economic profits) In a Competitive MarketCompetitive Market
The model says no but….The model says no but….
A note on “stability” and A note on “stability” and competitive equilibriumcompetitive equilibrium
An equilibrium may exist but not be An equilibrium may exist but not be “stable”“stable”
Think about the “cattle cycle” or Think about the “cattle cycle” or “bubbles”. “bubbles”.
Applying the Model: SR Applying the Model: SR Equilibrium and the Burden Equilibrium and the Burden
of a Taxof a Tax Consider a “per unit” tax on some Consider a “per unit” tax on some
good (like the tax on a pack of good (like the tax on a pack of cigarettes).cigarettes).
Does it matter whether the tax is Does it matter whether the tax is imposed on the buyer or seller?imposed on the buyer or seller?
Suppose the Producer Must Suppose the Producer Must Pay $5 TaxPay $5 Tax
Supply (no tax)
Demand
Pno tax
Supply (tax)
Tax shifts the Supply by $5
Ptax
Ptax
Pnet
Suppose the Consumer Suppose the Consumer Must Pay $5 TaxMust Pay $5 Tax
Supply
Demand (no tax)
Pno
tax
Tax shifts the demand by $5
Ptax
Ptax
Pnet
Demand (tax)