The Welfare Economics of Market Power
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Transcript of The Welfare Economics of Market Power
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The Welfare Economicsof Market Power
Roger WareECON 445
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Consumer Surplus, Producer Surplus, Total
Surplus• Consumer Surplus is the difference
between the consumer's willingness to pay for another unit of output and the price actually paid.
• Producer Surplus is the difference between what a producer receives (price) and marginal cost – the minimum required to ensure supply.
• Total Surplus is just the sum of Consumer and Producer Surplus
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Consumer Surplus and Producer Surplus
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General Theorems on Economic Efficiency
• Competitive markets lead to all prices being set equal to marginal cost
• Competitive equilibria (in ALL markets) are Pareto optimal (first theorem of welfare economics). In partial equilibrium terms this is equivalent to maximizing total surplus.
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Competitive Equilibria 2
• Departures from competitive markets can occur because of externalities and other market failures
• They can also occur because of the exercise of market power, which is the focus of Competition Policy
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Market Power
• A firm has market power if it finds it profitable to raise price above marginal cost.
• A firm with market power is often called a price maker (as opposed to a price taker in a competitive market)
• The exercise of market power involves a loss of surplus to society, often called “deadweight loss”
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Monopoly Pricing (review)
P(Q) MCMR(Q)
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Lerner Index of Monopoly
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Measurement of Deadweight Loss
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Example: Dead Weight Loss in the Superior Propane
Merger
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