Competition and Monopolies Chapter 9 Competition and Monopolies

Section 1 Perfect Competition

Market Structure Economists classify markets according to their conditions. How many buyers and sellers are there? How large are they? Does either have any influence over price? How much competition exists between firms? Is it easy of difficult for new firms to enter the market?

Market Structure The answers to these questions help determine market structure, or the nature and degree of competition among firms operating in the same industry.

Four Basic Market Structures 1. Perfect competition 2. Monopolistic competition 3. Oligopoly 4. Monopoly

Perfect (Pure) Competition 1. Large market – numerous buyers and sellers 2. Identical products 3. Easy entry and exit out of the market 4. Buyers and sellers should be well-informed 5. Buyers and sellers act independently

Perfect Competition Supply and demand set the equilibrium price, not a single seller or buyer The market price is the equilibrium price Theory - true perfect competition rarely exists

Agriculture as an Example

Monopoly, Oligopoly, and Monopolistic Competition SECTION 2 Monopoly, Oligopoly, and Monopolistic Competition

Imperfect Competition Refers to market structures that lack one or more of the five conditions of perfect competition

Imperfect Competition 3 types of imperfect market structures: monopoly, oligopoly, and monopolistic competition They differ from one another based on how much competition and control over price the seller has.

Monopoly Single seller controls the supply of a good or service and thus determines the price. Four characteristics: 1. A single seller 2. No substitutes 3. No entry 4. Almost complete control over market price

Monopoly Monopolies are protected by barriers to entry: obstacles that prevent others from entering the market. 1. Laws in place to prevent competition that would lead to wasteful duplication. Example: 3 or 4 competing water companies all trying to lay water pipes along your street 2. Another barrier is the cost of entry – initial investment is high. 3. Ownership of raw materials Example: diamonds

Why are there monopolies? Q: What about a market causes there to be only one firm in operation? A: Several possible factors. First, a firm could control a key resource needed for the production of a good. For example, there can be only one dam at any point along a river, so whoever owns the dam will have a monopoly on the production of hydroelectric power there. Second, the government could mandate that only one firm will operate in a market. This is true with respect to mail delivery. Only the U.S. Postal Service (a government monopoly) can deliver mail into your mailbox. Other firms can deliver packages to your door, but not to your mailbox. Finally, economies of scale in production may dictate that one large firm is the most efficient way to provide a product. This situation is called natural monopoly.

Monopoly Example 1: DMV “ Think about the Department of Motor Vehicles, which has a monopoly on the right to grant driver’s licenses. What is the point of being friendly, staying open longer, making customers comfortable, adding clerks to shorten lines, keeping the office clean, or interrupting a personal call when a customer comes to the window?”

Monopoly Example 1: DMV None of these things will produce even one more customer! Every single person who needs a driver’s license already comes to the DMV and will continue to come no matter how unpleasant the experience. There are limits, of course. If service becomes bad enough, then voters may take action against the politician in charge. But, that is an indirect, cumbersome process.”

Monopoly Example 1: DMV “ Compare that to your options in the private sector. If a rat scampered across the counter at your favorite Chinese take-out restaurant, you would (presumably) just stop ordering there. End of problem. The restaurant will get rid of the rats or go out of business.”

Monopoly Example 1: DMV “ Meanwhile, if you stop going to the Department of Motor Vehicles, you may end up in jail.”

3. Technological monopoly 4. Government monopoly Types of Monopolies 1. Natural monopoly 2. Geographic monopoly 3. Technological monopoly 4. Government monopoly

Natural Monopoly More efficient for only one business to produce the goods Government grants exclusive rights to providers such as utilities, bus service, and cable TV. The larger size, or scale, of most natural monopolies seemed to give them economies of scale – by which they could produce the largest amount for the lowest cost.

Example: small town drugstore, sole gas station on interstate exit Geographic Monopoly No other business chooses to compete in that area – potential for profits is small. Example: small town drugstore, sole gas station on interstate exit

Technological Monopoly Results from new discoveries and inventions. The government grants these monopolies through the issue of patents and copyrights Patents: exclusive right to manufacture, rent, or sell your invention – usually 20 years Copyrights: publish (author’s lifetime + 70 years)

Government Monopoly Involves products people need that private industry might not adequately provide. Example: construction and maintenance of roads and bridges are responsibilities of local, state, and national governments.

Oligopoly A few large businesses dominate an industry and exercise some control over price. Five conditions: 1. Domination by a few sellers – 70 to 80 % of market 2. Barriers to entry 3. Identical or slightly different products 4. Nonprice competition - advertising 5. Interdependence

Oligopoly

Oligopoly

Product Differentiation Real or imagined differences between competing products in the same industry that makes it more valuable in the consumers’ eyes. Nonprice competition: advertising, giveaways, promotional campaigns

If advertisers can make you believe their product is better than others, you may pay more for it. How has non price competition affected your buying habits?

Interdependent Behavior With so few firms in an oligopoly, when one business makes a move, the others usually follow. Example: a price war: one airline company cuts prices, other majors airlines lowers theirs even more. If competing firms secretly agree to raise prices they are performing an illegal act called collusion.

Interdependent Behavior Cartels: form of collusion – arrangement among groups of industrial businesses, often in different countries, to reduce international competition by controlling price, production and the distribution of goods.

Monopolistic Competition Large number of sellers offer similar but slightly different products. Examples: brand names items - toothpastes, cosmetics, and designer clothes Five conditions: 1. Numerous sellers 2. Relatively east entry 3. Differentiated products 4. Nonprice competition 5. Some control over price

Advertising Attempts to persuade consumers that their product is different from, and superior to, any other. Successful advertising enables some companies to charge more for their products. Millions of dollars spent

Government Policies Toward Competition Section 3 Government Policies Toward Competition

Antitrust Legislation Trust: legally formed combinations of corporations or companies Antitrust laws prevent or break up monopolies, preventing failures due to inadequate competition Federal Trade Commission: has the authority to stop any unfair business practices that reduce or limit competition

Antitrust Legislation 1890: Sherman Antitrust Act:1st law against monopolies – to protect trade and commerce 1914: Clayton Antitrust Act: outlawed price discrimination – the practice of selling the same good to different buyers at different prices

Mergers Most antitrust legislation deals with restricting the harmful effects of mergers. Mergers: occurs when one corporation joins with another corporation. Three types of mergers: 1. Horizontal 2. Vertical 3. Conglomerate

Mergers Horizontal merger: when two corporations that merge are in the same business. Ex: Video Store A buys Video Store B Vertical merger: when corporations involved in a “chain” of supply merge. Ex: paper company buying the lumber mill that supplies it with pulp or buying the office supply business that sells its paper.

Mergers Conglomerate: huge corporation involved in at least four or more unrelated businesses Example: Proctor and Gamble – operations in more than 160 countries – produces or acquired such businesses as Cover Girl cosmetics, Folgers coffee, Pringles potato chips, Crest toothpaste, Dawn dish soap, Charmin toilet paper.

Deregulation In the 1980s -1990s, many industries were deregulated – the government reduced regulations and control over business activity. In trying to protect consumers form unfair practices, government regulations had actually decreased the amount of competition in the economy.