Chapter 11 Market Power, Collusion, and Oligopoly

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Chapter 11Market Power, Collusion, and Oligopoly

• Elusive goal
• Profit associated with market power
• Strategies to achieve market power
• Collusion and theory of games
• Regulation as an agitator
• Models of oligopoly
• Contestable markets
• Monopolistic competition

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Acquiring Market Power

• Mergers
• Horizontal integration
• Vertical integration
• Antitrust policies
• Predatory pricing
• Resale price maintenance

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EXHIBIT 11.1 A Horizontal Merger
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Mergers

• Horizontal integration
• Firms that produce same good merge
• Ex. Dell, Gateway, and IBM
• Vertical integration
• Firm that produces input and firm that uses input
  to produce output merge
• Ex. Dell and Intel

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Horizontal Integration

• Reasons to merge
• Economies of scale
• Monopoly power
• Competing welfare concerns
• Reduce costs
• Create monopoly power
• Ex. Great American Merger Wave

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Vertical Integration

• Two monopolist merge
• Can eliminate monopoly power
• Benefit consumers
• Total surplus to firm larger after merger
• Other types of vertical integration
• Good or bad
• Depends specifics of market structure
• Shapes of demand and cost curves

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Predatory Pricing

• Damage rival firms
• Sets prices artificially low
• Form of price discrimination
• Skepticism about use in marketplace
• Profit motive
• Robinson-Patman Act
• Prohibits predatory price discrimination
• Pricing below marginal cost

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Resale Price Maintenance

• Producer sets retail price and forbids any
  retailer to sell at discount
• Benefits
• Wholesaler
• Retailer
• Consumer
• Keeping prices or service high

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EXHIBIT 11.5 Resale Price Maintenance
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Collusion

• Collusion
• Agreement among firms to set prices and output
• Cartel
• Group of firms engaged in collusion

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Prisoners Dilemma

• Game with 2 players
• Crime committed
• Players must decide how to play game
• Choose best strategy
• Invisible hand does not hold true
• Repeated Prisoners Dilemma
• Tit-for-Tat

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Breakdown of Cartels

• Price initially set above MC
• Incentive to cheat
• Competitive output level
• Analogous to Prisoners Dilemma
• Ex. NCAA
• Enforcers
• Government
• Monopoly retailer

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Oligopoly

• Individual firms influence market conditions
• Monopoly power
• Potential entry

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Contestable Markets

• Firms enter and exit costlessly
• Airline market
• Assume identical firms
• If AC curves cross industry demand in
  upward-sloping region
• Price, AC, MC all equal
• Natural monopoly case

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EXHIBIT 11.8 A Contestable Market
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Fixed Number of Firms

• Cournot model
• Take rivals output as given
• Production level
• Bertrand model
• Take rivals prices as given
• MC and pricing move toward competition

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EXHIBIT 11.10 The Cournot Model of Oligopoly
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Product Differentiation

• Production of unique product with close
  substitutes
• Brand names
• Location

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Monopolistic Competition

• Market where there are many similar but
  differentiated products
• Long-run equilibrium quantity
• Welfare aspects
• Price setting
• Output choice
• Minimum of AC curve
• Advertising

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EXHIBIT 11.11 Monopolistic Competition
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Economics of Location

• Exaggerating or minimizing difference
• Vendor location
• Final location
• Political parties

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