Download Economies of Scale and International Trade,a

Economies of Scale
Economies of Scale make it advantageous for each country
to specialize in the production of only limited number of
goods & services and to manufacture them in large
quantities, partly for exports.
Two types:
(1)External economiescost per unit depends on the size of industry, not the size of
the firm.
(2) Internal economiescost per unit depends on the size of the individual firm
Internal economies and
Differentiated Products
(Internal economies are inconsistent with perfect
competition)
In monopolistic competition:
(1) each firm can differentiate its product
from that of its rivals.
(2) each firm is assumed to take prices
charged by its rivals as given.
A Model of Monopolistic
Competition
Demand for a variety, produced by a single firm:
1
(1) Q  S[  b( p  p)]
n
Q = firm’s sales
S = total sales of the industry
b = responsiveness of Q to the firm’s price increase, relative to
the average price changed by competitions
P = Variety (firm’s product) price
p = average price charged by competitors
SUMMARY
Demand
1
Q  S [  b( p  p )]
n
Cost
F
AC 
c
Q
THE MARKET POWER
SCHEDULE(The PP Schedule)
Q = A-BP
A
s
 sb P
n
P = A/B - Q/B
B = sb
A Q
R  QP  Q(  )
B B
R
A Q
1
MR 
 (  )  ( )Q
Q
B B
B
A 2Q
Q

 P
B B
B
Q
1
MR  P   P 
sb
bn
1
MR  C  P  C 
bn
MR 
The PP Schedule (continue)
MR  c
Q
Q
P
c P c
sb
sb
s
Q
n
1
P c
bn
Markup:
(The PP schedule)
Pc
1


c
bnc
More n, smaller markup
The PP-Schedule
Price
P
1
P c
bn
P
Number of varieties
THE INTERNAL ECONOMIES SCHEDULE
(The CC Schedule)
Costs
TC  F  cQ
F
(2) AC   c
Q
F = fixed costs, c = marginal cost
F
F
(3) AC   c  n  c
Q
S
(4) If P  P then, from (1)
S
(5) Q 
n
more n
Larger
cost
per unit
Cost
per
unit,
price
CC: (AC = nF/S + c = P
S given
^
P
PP: (P = c + 1/bn)
^
Number of firms
n
MARKET EQUILIBRIUM
Larger n
Competition more intense
Derivation of PP
If each firm treats P
as given
S
Q  (  Sb P)  SbP  MR  c
n
P
Price
^
1. An increase in F
CC: (P = nF/S + c)
2
P2
1
^
P
1
PP: (P = c + 1/bn)
^
Price
# of firms
^
n2 n1
2 An increase in the marginal cost of production
2
1
# of firms
3. An increase in b (demand elasticity)
CC
1
PP
2
PP
Result: n goes up.
Can get free competition free competition
in the limiting case as
F  0 and b    perfect competition
INTEGRATION OF TWO MARKETS
Zero Profits due to Free Entry & Exit:
^
n = the zero profit number of firms in the industry
^
P = zero profit, profits-maximizing price
Effects of MARKETS INTEGRATION - S rises, P falls.
P
CC1
CC2
1
P1
2
P2
PP
n
n1 n2
Economies of Scale,
Differentiated Products and
Comparative Advantage
If trade is costless and technologies are similar across
trading partners economies we cannot say where firms
will be located in the integrated market but the market
definitely will support more firms and lower prices.
Two Goods: Food & Manufacturing
homogenous
differentiated
products
Constant Returns ( The Hekscher-Ohlin Model)
Home
(capital
Abundant)
Foreign
(labor
abundant)
Inter-industry
trade
capital intensive good intensive in labor
good
Imperfect Competition
Two Goods: Food & Manufacturing
homogenous
Home
(capital
abundant)
Foreign
(labor
abundant)
differentiated
products
Inter-industry
trade
Intra-industry
trade
capital intensive good intensive in labor
good