©Prentice Hall 2003 The Economic Way of Thinking 10e 1 “The Economic Way of Thinking” 10 th...
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1 ©Prentice Hall 2003 ©Prentice Hall 2003 The Economic Way of Thinking The Economic Way of Thinking 10e 10e “ “ The Economic Way of The Economic Way of Thinking” Thinking” 10 10 th th Edition Edition by Paul Heyne, Peter Boettke, by Paul Heyne, Peter Boettke, and David Prychitko and David Prychitko “Competition and “Competition and Government Policy” Government Policy” PowerPoint Slides prepared by PowerPoint Slides prepared by Assistant Professor Assistant Professor Paul Harris Paul Harris Camden County College Camden County College
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©Prentice Hall 2003©Prentice Hall 2003The Economic Way of Thinking 10eThe Economic Way of Thinking 10e
““The Economic Way of Thinking”The Economic Way of Thinking”1010thth Edition Edition
by Paul Heyne, Peter Boettke, by Paul Heyne, Peter Boettke, and David Prychitkoand David Prychitko
“Competition and “Competition and Government Policy”Government Policy”
““The Economic Way of Thinking”The Economic Way of Thinking”1010thth Edition Edition
by Paul Heyne, Peter Boettke, by Paul Heyne, Peter Boettke, and David Prychitkoand David Prychitko
“Competition and “Competition and Government Policy”Government Policy”
PowerPoint Slides prepared by PowerPoint Slides prepared by Assistant Professor Assistant Professor
Paul HarrisPaul HarrisCamden County CollegeCamden County College
PowerPoint Slides prepared by PowerPoint Slides prepared by Assistant Professor Assistant Professor
Paul HarrisPaul HarrisCamden County CollegeCamden County College
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The Economic Way of Thinking 10eThe Economic Way of Thinking 10e ©Prentice Hall 2003©Prentice Hall 2003
Chapter OutlineChapter Outline
I.I. IntroductionIntroductionII.II. The Pressures of CompetitionThe Pressures of CompetitionIII.III. Controlling CompetitionControlling CompetitionIV.IV. The Ambivalence of Government The Ambivalence of Government
PoliciesPoliciesV.V. Selling Below CostSelling Below CostVI.VI. What is the Appropriate Cost?What is the Appropriate Cost?VII.VII. ““Predators” and CompetitionPredators” and Competition
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VIII.VIII. Regulating PricesRegulating PricesIX.IX. ““Antitrust” PolicyAntitrust” PolicyX.X. Interpretations and ApplicationsInterpretations and ApplicationsXI.XI. Vertical Restraints: Competitive or Vertical Restraints: Competitive or
AnticompetitiveAnticompetitiveXII.XII. The Range of OpinionThe Range of OpinionXIII.XIII. Toward EvaluationToward EvaluationXIV.XIV. Once over LightlyOnce over Lightly
Chapter OutlineChapter Outline
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IntroductionIntroduction
QuestionsQuestions
Will economic competition disappear Will economic competition disappear unless the government has an active unless the government has an active program to preserve it?program to preserve it?
When the government prohibits When the government prohibits mergers, is it preventing competitors mergers, is it preventing competitors from eliminating rivals?from eliminating rivals?
QuestionsQuestions
Will economic competition disappear Will economic competition disappear unless the government has an active unless the government has an active program to preserve it?program to preserve it?
When the government prohibits When the government prohibits mergers, is it preventing competitors mergers, is it preventing competitors from eliminating rivals?from eliminating rivals?
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IntroductionIntroduction
QuestionsQuestions
When sellers face so little competition When sellers face so little competition that they can charge prices far above that they can charge prices far above cost, can government protect consumers cost, can government protect consumers from exploitation by regulating prices?from exploitation by regulating prices?
How is competition measured in an How is competition measured in an industry?industry?
QuestionsQuestions
When sellers face so little competition When sellers face so little competition that they can charge prices far above that they can charge prices far above cost, can government protect consumers cost, can government protect consumers from exploitation by regulating prices?from exploitation by regulating prices?
How is competition measured in an How is competition measured in an industry?industry?
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The Pressures of CompetitionThe Pressures of Competition
• Price > Marginal Cost Price > Marginal Cost – Sellers facing downward sloping demand Sellers facing downward sloping demand
curves curves
• Invites CompetitionInvites Competition
• ExampleExample– Piece of pie costs 50 cents to produce.Piece of pie costs 50 cents to produce.– Seller sells the pie for $1.50.Seller sells the pie for $1.50.
• Price > Marginal Cost Price > Marginal Cost – Sellers facing downward sloping demand Sellers facing downward sloping demand
curves curves
• Invites CompetitionInvites Competition
• ExampleExample– Piece of pie costs 50 cents to produce.Piece of pie costs 50 cents to produce.– Seller sells the pie for $1.50.Seller sells the pie for $1.50.
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P
Q
D
Temptation!
.50Marginal cost
$1.50Price
The Pressures of CompetitionThe Pressures of Competition
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QuestionQuestionWhat will the cafes around town begin What will the cafes around town begin to do to attract customers?to do to attract customers?
SellersSellersProbe for information on the demand for Probe for information on the demand for their producttheir productTry to stimulate demand by advertising Try to stimulate demand by advertising and providing reliable service and providing reliable service
QuestionQuestionWhat will the cafes around town begin What will the cafes around town begin to do to attract customers?to do to attract customers?
SellersSellersProbe for information on the demand for Probe for information on the demand for their producttheir productTry to stimulate demand by advertising Try to stimulate demand by advertising and providing reliable service and providing reliable service
The Pressures of CompetitionThe Pressures of Competition
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QuestionQuestionWhat will the cafes around town begin What will the cafes around town begin to do to attract customers?to do to attract customers?
SellersSellersProbe for information on the demand for Probe for information on the demand for their producttheir productTry to stimulate demand by advertising Try to stimulate demand by advertising and providing reliable service and providing reliable service
QuestionQuestionWhat will the cafes around town begin What will the cafes around town begin to do to attract customers?to do to attract customers?
SellersSellersProbe for information on the demand for Probe for information on the demand for their producttheir productTry to stimulate demand by advertising Try to stimulate demand by advertising and providing reliable service and providing reliable service
The Pressures of CompetitionThe Pressures of Competition
The best price for anyoneThe best price for anyoneto set next may depend onto set next may depend on
the price set last.the price set last.
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P
Q
Demand curveas seller
perceives it
D
The Pressures of CompetitionThe Pressures of Competition
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Controlling CompetitionControlling Competition
QuestionQuestion
Why don’t sellers agree not to compete?Why don’t sellers agree not to compete?
High Transaction CostsHigh Transaction Costs
Collusion is illegal.Collusion is illegal.
Difficult to devise agreement.Difficult to devise agreement.
Collusion may attract other firms.Collusion may attract other firms.
QuestionQuestion
Why don’t sellers agree not to compete?Why don’t sellers agree not to compete?
High Transaction CostsHigh Transaction Costs
Collusion is illegal.Collusion is illegal.
Difficult to devise agreement.Difficult to devise agreement.
Collusion may attract other firms.Collusion may attract other firms.
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Controlling CompetitionControlling Competition
QuestionQuestion
Why don’t sellers agree not to compete?Why don’t sellers agree not to compete?
High Transaction CostsHigh Transaction Costs
Collusion is illegal.Collusion is illegal.
Difficult to devise agreement.Difficult to devise agreement.
Collusion may attract other firms.Collusion may attract other firms.
QuestionQuestion
Why don’t sellers agree not to compete?Why don’t sellers agree not to compete?
High Transaction CostsHigh Transaction Costs
Collusion is illegal.Collusion is illegal.
Difficult to devise agreement.Difficult to devise agreement.
Collusion may attract other firms.Collusion may attract other firms.
Cartel’s Two Problems……Cartel’s Two Problems……1.1. Prevent members from Prevent members from
competingcompeting2.2. Prevent new firms from Prevent new firms from
enteringentering
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• QuestionQuestion– Are there legal ways to restrict Are there legal ways to restrict
competition?competition?• ExamplesExamples
– Washington, D.C. Medical SocietyWashington, D.C. Medical Society– PlumbersPlumbers– Woolen MakersWoolen Makers– BarbersBarbers
• QuestionQuestion– Are there legal ways to restrict Are there legal ways to restrict
competition?competition?• ExamplesExamples
– Washington, D.C. Medical SocietyWashington, D.C. Medical Society– PlumbersPlumbers– Woolen MakersWoolen Makers– BarbersBarbers
The Pressures of CompetitionThe Pressures of Competition
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The Ambivalence of Government Policies
• QuestionQuestion
– Should the government be relied on to Should the government be relied on to preserve competition in the economy?preserve competition in the economy?
• ExplainExplain
– Concern for competition is not the same Concern for competition is not the same as concern for competitors.as concern for competitors.
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A law that restricts competitorsA law that restricts competitorsrestricts competition.restricts competition.
A law that restricts competitorsA law that restricts competitorsrestricts competition.restricts competition.
Common justification for suchCommon justification for suchlaws is that they preserve laws is that they preserve competition by preventingcompetition by preventing
““predatory”predatory” practices. practices.
Common justification for suchCommon justification for suchlaws is that they preserve laws is that they preserve competition by preventingcompetition by preventing
““predatory”predatory” practices. practices.
The Ambivalence of Government Policies
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Selling Below CostSelling Below Cost
• QuestionQuestion
– Should there be laws that prevent Should there be laws that prevent firms from selling below cost?firms from selling below cost?
• Many states have such laws.Many states have such laws.
• QuestionQuestion
– Why would some business firms be in Why would some business firms be in favor of such a law?favor of such a law?
• QuestionQuestion
– Should there be laws that prevent Should there be laws that prevent firms from selling below cost?firms from selling below cost?
• Many states have such laws.Many states have such laws.
• QuestionQuestion
– Why would some business firms be in Why would some business firms be in favor of such a law?favor of such a law?
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• Public ViewPublic View
– Price cutting may lead to Price cutting may lead to monopolies.monopolies.
• QuestionQuestion
– Is this bad?Is this bad?
• Public ViewPublic View
– Price cutting may lead to Price cutting may lead to monopolies.monopolies.
• QuestionQuestion
– Is this bad?Is this bad?
Selling Below CostSelling Below Cost
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What is theAppropriate Cost?
• ProblemProblem– How to determine the cost below which How to determine the cost below which
prices cannot be set.prices cannot be set.• QuestionQuestion
– Once an item is bought, isn’t it a sunk cost?Once an item is bought, isn’t it a sunk cost?• QuestionQuestion
– What should a firm do if they cannot sell What should a firm do if they cannot sell their product before it spoils?their product before it spoils?
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Marginal costs should be considered.Marginal costs should be considered.Business people are concerned with:Business people are concerned with:
Additional revenues resulting from a Additional revenues resulting from a decision.decision.Additional costs from the same decision.Additional costs from the same decision.
QuestionQuestionWhen would a grocer want to sell a When would a grocer want to sell a newspaper below cost?newspaper below cost?
What is theAppropriate Cost?`
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“Predators” and Competition“Predators” and Competition
Protecting competitors is not the same Protecting competitors is not the same as preserving competition.as preserving competition.
Predatory PricingPredatory PricingReducing prices below cost in order to drive Reducing prices below cost in order to drive out rivalsout rivals
Intend to raise prices afterward to recoup Intend to raise prices afterward to recoup losseslosses
Protecting competitors is not the same Protecting competitors is not the same as preserving competition.as preserving competition.
Predatory PricingPredatory PricingReducing prices below cost in order to drive Reducing prices below cost in order to drive out rivalsout rivals
Intend to raise prices afterward to recoup Intend to raise prices afterward to recoup losseslosses
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“Predators” and Competition“Predators” and Competition
QuestionQuestionHow long will it take for such a policy to work?How long will it take for such a policy to work?The longer it takes the larger will be the short The longer it takes the larger will be the short term losses.term losses.
QuestionQuestionIs it likely that the predatory firm will will be Is it likely that the predatory firm will will be able to destroy enough of its rivals to secure the able to destroy enough of its rivals to secure the degree of market power it must have to earn degree of market power it must have to earn enough long run profits to justify short term enough long run profits to justify short term losses?losses?
QuestionQuestionHow long will it take for such a policy to work?How long will it take for such a policy to work?The longer it takes the larger will be the short The longer it takes the larger will be the short term losses.term losses.
QuestionQuestionIs it likely that the predatory firm will will be Is it likely that the predatory firm will will be able to destroy enough of its rivals to secure the able to destroy enough of its rivals to secure the degree of market power it must have to earn degree of market power it must have to earn enough long run profits to justify short term enough long run profits to justify short term losses?losses?
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Regulating PricesRegulating Prices
QuestionsQuestionsHow are prices set for firms that How are prices set for firms that are investor owned?are investor owned?How will regulators determine How will regulators determine the costs of running the the costs of running the enterprise?enterprise?
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• Prices should be set to enable firms Prices should be set to enable firms to earn a normal profit.to earn a normal profit.
• QuestionQuestion
– But what are the costs?But what are the costs?
• InnovationInnovation
• Cost controlCost control
• Prices should be set to enable firms Prices should be set to enable firms to earn a normal profit.to earn a normal profit.
• QuestionQuestion
– But what are the costs?But what are the costs?
• InnovationInnovation
• Cost controlCost control
Regulating PricesRegulating Prices
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QuestionQuestionWho will regulate the regulators?Who will regulate the regulators?
Capture TheoryCapture TheoryRegulators tend to acquire an Regulators tend to acquire an interest in the well-being of the interest in the well-being of the industry.industry.
QuestionQuestionWho will regulate the regulators?Who will regulate the regulators?
Capture TheoryCapture TheoryRegulators tend to acquire an Regulators tend to acquire an interest in the well-being of the interest in the well-being of the industry.industry.
Regulating PricesRegulating Prices
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• ExamplesExamples– BankingBanking
– AirlinesAirlines
– TelephoneTelephone
• ProblemProblem– Is competition unable to constrain the Is competition unable to constrain the
behaviors of the firms in the regulated behaviors of the firms in the regulated industry?industry?
• ExamplesExamples– BankingBanking
– AirlinesAirlines
– TelephoneTelephone
• ProblemProblem– Is competition unable to constrain the Is competition unable to constrain the
behaviors of the firms in the regulated behaviors of the firms in the regulated industry?industry?
Regulating PricesRegulating Prices
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The movement towards deregulation of The movement towards deregulation of the past two decades has not settled all the past two decades has not settled all the issues.the issues.HistoryHistory
There are more margins on which There are more margins on which competition can occurcompetition can occurCompetition has some advantages Competition has some advantages over commissionsover commissions
The movement towards deregulation of The movement towards deregulation of the past two decades has not settled all the past two decades has not settled all the issues.the issues.HistoryHistory
There are more margins on which There are more margins on which competition can occurcompetition can occurCompetition has some advantages Competition has some advantages over commissionsover commissions
Regulating PricesRegulating Prices
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“Antitrust” Policy
Laws have been passed to promote Laws have been passed to promote competition.competition.
FederalFederal
StateState
LocalLocal
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Sherman Antitrust Act -- 1890Sherman Antitrust Act -- 1890Forbids all contracts, Forbids all contracts, combinations, or conspiracies combinations, or conspiracies in restraint of interstate trade in restraint of interstate trade and all attempts to monopolize and all attempts to monopolize any part of interstate tradeany part of interstate trade
“Antitrust” Policy
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Interpretationsand Applications
Interpretationsand Applications
Clayton Act -- 1914Clayton Act -- 1914
Made illegal mergers that Made illegal mergers that “substantially” lessen “substantially” lessen competitioncompetition
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• Federal Trade Commission Federal Trade Commission ActAct– Created Federal Trade Created Federal Trade
CommissionCommission• Prohibited “unfair” Prohibited “unfair”
practicespractices
Interpretationsand Applications
Interpretationsand Applications
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• QuestionQuestion
– When does a merger substantially When does a merger substantially lessen competition?lessen competition?
• HorizontalHorizontal
• ConglomerateConglomerate
• VerticalVertical
Interpretationsand Applications
Interpretationsand Applications
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• QuestionQuestion– What is an illegal trade practice?What is an illegal trade practice?
• SummarySummary– Restriction on competitors will restrict their Restriction on competitors will restrict their
ability to compete.ability to compete.– We must decide when we want the government to We must decide when we want the government to
restrict a firm’s competitive efforts.restrict a firm’s competitive efforts.
• QuestionQuestion– What is an illegal trade practice?What is an illegal trade practice?
• SummarySummary– Restriction on competitors will restrict their Restriction on competitors will restrict their
ability to compete.ability to compete.– We must decide when we want the government to We must decide when we want the government to
restrict a firm’s competitive efforts.restrict a firm’s competitive efforts.
Interpretationsand Applications
Interpretationsand Applications
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Vertical Restraints: Competitive or Anticompetitive
Vertical Restraints: Competitive or Anticompetitive
Vertical restraints have been Vertical restraints have been controversial.controversial.
1937 - 19761937 - 1976
Federal legislation exempted state-Federal legislation exempted state-endorsed price-fixing agreements endorsed price-fixing agreements between manufacturers and between manufacturers and retailers.retailers.
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• QuestionsQuestions– Why would a manufacturer want Why would a manufacturer want
retailers to charge more and sell retailers to charge more and sell less?less?
– Why would a manufacturer want Why would a manufacturer want fewer retailers selling its products?fewer retailers selling its products?
Vertical Restraints: Competitive or Anticompetitive
Vertical Restraints: Competitive or Anticompetitive
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The Range of OpinionThe Range of Opinion
• QuestionQuestion– Is the whole body of “antitrust” law perhaps Is the whole body of “antitrust” law perhaps
more of a hindrance than a help to more of a hindrance than a help to competition?competition?
• OpinionsOpinions– Retain the Sherman Act and the anti-merger Retain the Sherman Act and the anti-merger
provisions of the Clayton Act only.provisions of the Clayton Act only.– The Sherman and Clayton acts, in their The Sherman and Clayton acts, in their
entirety, have made important contributions.entirety, have made important contributions.
• QuestionQuestion– Is the whole body of “antitrust” law perhaps Is the whole body of “antitrust” law perhaps
more of a hindrance than a help to more of a hindrance than a help to competition?competition?
• OpinionsOpinions– Retain the Sherman Act and the anti-merger Retain the Sherman Act and the anti-merger
provisions of the Clayton Act only.provisions of the Clayton Act only.– The Sherman and Clayton acts, in their The Sherman and Clayton acts, in their
entirety, have made important contributions.entirety, have made important contributions.
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The Range of OpinionThe Range of Opinion
OpinionsOpinions
They would be improved if they They would be improved if they were more seriously enforced.were more seriously enforced.
They are both harmless rhetoric.They are both harmless rhetoric.
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Toward EvaluationToward Evaluation
Competitive restrictions reduce the Competitive restrictions reduce the availability of substitutes and allow availability of substitutes and allow sellers to increase their own wealth.sellers to increase their own wealth.
Competition is a process, not a state of Competition is a process, not a state of affairs.affairs.
An inadequate situation must be An inadequate situation must be compared with more desirable situations compared with more desirable situations that are attainable.that are attainable.
Competitive restrictions reduce the Competitive restrictions reduce the availability of substitutes and allow availability of substitutes and allow sellers to increase their own wealth.sellers to increase their own wealth.
Competition is a process, not a state of Competition is a process, not a state of affairs.affairs.
An inadequate situation must be An inadequate situation must be compared with more desirable situations compared with more desirable situations that are attainable.that are attainable.
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Once Over LightlyOnce Over Lightly
A gap between the A gap between the price of a good and price of a good and the marginal cost of the marginal cost of making it available making it available is a source of is a source of potential advantage potential advantage to someone.to someone.
Competition occurs Competition occurs in the economy as in the economy as people locate such people locate such differentials, and differentials, and exploit them.exploit them.
There are usually so There are usually so many forms of many forms of competition that it is competition that it is difficult to anticipate difficult to anticipate and head them all and head them all off.off.
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Once Over LightlyOnce Over Lightly
Firms try to obtain Firms try to obtain Government Government assistance in assistance in excluding excluding competition.competition.
Government Government regulation of regulation of pricing and other pricing and other business practices business practices has often blocked has often blocked the development the development of competition of competition that might that might otherwise arisen.otherwise arisen.
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Once Over LightlyOnce Over Lightly
Competition is a Competition is a process in which process in which competitors engage.competitors engage.
We cannot have We cannot have competition without competition without competitors.competitors.
We cannot have We cannot have competition if we competition if we legally prohibit legally prohibit competitors from competitors from taking actions taking actions intended to intended to increase their increase their share of the share of the market. market.
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End of Chapter 11
Next, Next, Chapter 12 Chapter 12
“The “The Distribution Distribution of Income”.of Income”.
