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Monopolistic Competition
&
Oligopoly
Characteristics of Monopolistic
Competition
• A relatively large number of sellers
(Small Market Share, No Collusion, Independent
Action)
• Differentiated products
(Product Attributes, Service, Location, Brands)
• Easy entry and exit from the industry
(Entry Eliminates Profits, Exits Eliminate Losses)
• Advertising & Non Price Competition
Monopolistically Competitive
Industries
•
•
•
•
Clothing Industry
Restaurants
Jewelry
Consumer Electronics
Price and Output in Monopolistic
Competition (SR vs. LR)
Monopolistic Competition and
Efficiency
• Productive efficiency is P= min
ATC
• Allocative efficiency is P= MC
• Not productive or allocative
efficiency
• P>MC, meaning that resources
are underallocated; not
allocatively efficient
• Firms do not produce where
P= min ATC; therefore, not
productively efficient
• Marginal revenue curve will
never coincide with D=AR=P
Monopolistic Competition&
Excess Capacity
• Product differentiation
creates excess capacity
• means that fewer firms
operating at capacity
could supply the
industry output
• Excess capacity is the
gap between the
minimum ATC output
and the profitmaximization output
Monopolistic Competition &
Product Variety
• Firms are able to have profit from
differentiation in the long run because no
exact substitute).
• Advertising may increase costs, but also
demand, and help maintain long-run profit.
• Satisfies a wide range of consumer tastes and
encourages innovation to differentiate.
• Max Profit is Price x Product x Advertising
Characteristics of Oligopoly
1) A few large producers (Oil, Telecom, Soda).
2) Homogenous OR differentiated products
(Oil and Gasoline versus Automobiles)
3) Price maker, but still mutually interdependent
(Strategic Behaviour & Interdependance KEY!!)
4) Relatively high entry barriers
Mergers
• Merging of two or more competing firms is
beneficial in that it may increase their market
share significantly, and thus achieve greater
economies of scale.
• The larger firm that results from a merger
would have greater control over market
supply and price.
Measures of Industry Concentration
• Price Leadership
• The Four Firm Concentration Ratio
(determines whether a industry is monopolistic
competition or oligopoly, magic number is 40%)
• Herfindahl Index (Herfindahl-Hirschman Index
or HHI)
(the sum of the squares of the market shares of
each individual firm)
Oligopoly Behavior:
A Game Theory Overview
• Game Theory: study of how people/firms
behave in strategic situations.
• Game Theory Model: can be used to analyse
the behaviour of oligopolists.
• The “Payoff Matrix” and Collusive Behaviour.
• Often the “Payoff Matrix” is represented by
the Prisoner’s Dilemma, which is used to
explain ologopoly behaviour.
Prisoner’s Dilemma
Mutual Interdependence Revisited
• Oligopolistic firms can influence rival's profits
by changing pricing strategies
• Each firm's profit depends on their pricing
strategy in relation to their rival's
• Firms make decisions based on how they think
other firms will react. They anticipate the next
move
• Collusion is best, but firms cheat : (
Oligopoly and Advertising
• Positive Effects of Ads:
> Low-cost means to obtain info on product
> Diminishes monopoly power by providing info
on competing goods
• Negative Effects of Ads:
> Manipulate or persuade consumers
> May create a barrier to entry with costs of
advertising
Oligopoly and Efficiency
• Remember the triple equality for economic
efficiency: (P = MC = minimum ATC),
Oligopolists do not achieve this.
• Produce where P > minimum ATC so they are
not productively efficient.
• Produce where P > MC so they are not
alocatively efficient.
• Oligopolies can be less desirable than
monopolies because no regulation.