ESC Toulouse

1
ESC Toulouse Micro Economie Lecture 5
Competitive Markets
2
The competitive market model and implications
for business strategy

• What do we mean by competitive markets?
• What are the consequences for firms of being in
  competitive markets?
• Are competitive markets good? And if so, for
  whom?
• Strategic implications - turn the model on its
  head
• seek a competitive advantage
• escape from competition and/or do better than the
  rest.

3
Competition is a process

• Competition is a fundamental set of processes in
  a market economy.
• These processes arise from a simple principle
• Firms generally seek to maximise added value.
• Even if they did not wish to do, they may be
  forced to do so to survive.
• As a result, whenever profit opportunities exist
  other firms will seek to grab a slice of these
  profits.

4
Competition processes

• Here are some of those processes (all probably
  related)
• IMITATION AND REPLICATION
• good ideas and new products will eventually be
  copied or imitated
• COMMODIFICATION
• innovative products will go through life-cycles
  in which ultimately they tend to become
  standardised commodities
• NEW ENTRY
• early rents will be dissipated by subsequent new
  entry

5
Competition processes

• Some more processes
• DEREGULATION AND LIBERALISATION
• monopolistic positions (strategic assets) built
  on national or regional preferences or
  discrimination are being destroyed
• .
• EXTENDED GEOGRAPHICAL SCOPE OF MARKETS AND
  STRUCTURES OF FIRMS (GLOBALISATION)
• competition breaks down relevance of national
  barriers

6
Competition processes

• Yet more
• INFORMATION COSTS
• are falling dramatically (computers, internet, )
• This probably explains much of the earlier points
  weve made.
• EXTERNAL DISCIPLINE FACTORS
• Competition policy (Microsoft)
• Analysts
• Stock markets the market for corporate control
• Other stakeholders

7
Competition is a process

• As examples, think about these industries
• personal computer
• telephone/internet banking
• mobile phone
• building/construction service providers
• book retailing
• car production
• Any more examples?

8
A perfectly competitive market

• Economics texts define a perfectly competitive
  market as one which has ALL the following
  characteristics
• Large number of buyers and sellers.
• Customers perceive products as being perfect
  substitutes.
• All participants have complete price information.
• Customers have no loyalties to particular
  sellers.
• No barriers of entry into or exit from the
  market.
• All sellers have equal access to resources.

9
Two key properties of perfectly competitive
markets

• Buyers and sellers are price takers.
• Law of one price.

10
MC
R, C
MC, AC
AC
R
c
f
q
qL
q
qU
The quantity produced per time period
Output per period
Fig6.2 A typical firms short-run average
and marginal cost curves
Fig 6.3 Revenue, cost and profit.
11
MC, MR
MC
P
MR
q
q
The output of one firm per period
Fig 6.4 The marginal principle of profit
maximisation
12
MC
MC, MR
P
MR
q1
q2
q
quantity per period
Fig 6.5 More than one output level at which
marginal revenue equals marginal cost
13
MC
MC, AC, P
AC
C
P
MRDAR
B
q5
q3
q
q
q4
Fig 6.6 Short-run profit maximising equilibrium
of a single competitive firm in a perfectly
competitive market
14
AC
MC, AC, P AVC
MC
AVC
AC
p
MRDAR
q
q
Fig 6.7 A loss making firm in the short run
15
Price
Price
S
P
P
D
D
Q
Market quantity, Q
Firms quantity demanded, q
Fig 6.1 Market demand and the demand for one
firms output
16
SRMC
SRAC
P
P
DARMR
Q
q
Fig 6.9 Long-run equilibrium of the firm and
industry
17
MC
P
P
AC
S
AVC
d4
P4
P4
D4
d3
P3
P3
d2
P2
P2
D3
P1
P1
d1
D2
D1
Q1
Q2
Q3
Q4
q1
q3
Q
Q
q2
q4
Fig 6.8 The firms supply curve and the industry
(market) supply curve
18
Long-run average costs
LRAC
q
LRAC
SRMC
SRAC
LRMC
p
q
Fig 6.10 A firms optimum long run level of output
19
What happens when a typical, well-run firm in the
market is earning high profits (or making
losses)?

• This cannot persist for two reasons
• Existing firms alter their scale of operation.
• New firms enter the industry, or existing firms
  leave.
• A process of adjustment will take place, after
  which no incentive remains for any firm to enter
  or leave the industry.

20
The firm and the industry in long run equilibrium

• FIRMS
• To survive, firms must be fully efficient they
  must be operating at optimum scale and capacity
  utilisation levels.
• Price average cost ? zero economic profits.
• Zero economic profits Normal profits
• INDUSTRY
• All existing firms have chosen their capacity
  levels
• All firms that wish to enter or leave the market
  have done so.
• Average profitability zero (normal profits
  only)

21
NORMAL PROFITS

• An investor will invest financial capital in a
  firm only if it covers at least
• interest free rate of return available in economy
• premium to compensate for the industrys risk
• These two together determine the normal rate of
  profit in an industry
• A firm only makes true (economic) profit if its
  accounting rate of profit exceeds this normal
  rate.

22
The search for valuecost performance and
differentiation

• Two commonly suggested ways of gaining a
  competitive advantage over others
• superior cost performance
• product differentiation.
• For these to be sustainable, need some form of
  entry barrier or some kind of non-replicability.

23
Porter Competitive Advantage
Note potential importance of importance
corporate competencies/capabilities here in
creating basis for competitive advantage over
businesses (markets) by leverage and synergy.
24
Competitive Advantage

• A firm is said to have a competitive advantage
  when it is able to
• achieve rents which requires heterogeneity
  between firms
• enjoy rents that are not offset by the costs of
  achieving a superior set of resources which
  requires ex ante limits to competition for those
  resources
• keep those rents within the firm which requires
  imperfect resource mobility
• sustain those rents which requires ex-post
  limits to competition

25
Cornerstones of Competitive Advantage (Margaret
Peteraf)
26
Team task 5

• What forces within the markets in which you
  operate are promoting greater
  competition reducing the extent of competitive
  pressure?
• How have the costs of information changed in your
  markets? How has this affected your businesses?
  Are there are sources of distinctiveness you can
  generate by exploiting information in novel ways?
• Are there any changes in scope that could give
  you relative cost advantages that might reduce
  the extent to which your organisation is subject
  to competitive pressure ?