Market Structures (11/4) I.Perfect competition A.Necessary conditions 1.Large # of buyers and sellers 2.Identical products a.Examples: 3.Each acts independently 4.Buyers/sellers well-informed 5.Free to enter, conduct, get out of business: B.Theoretical situation:

II. Monopolistic Competition A. Perfect competition w/o identical products B. Product differentiation: 1. Store locations/design, packaging, etc. 2. Actual differences in product C. Nonprice competition:

III. Oligopoly A. Few large sellers dominate the industry B. Interdependent behavior 1. When one company lowers price, the others will too 2. Collusion – price fixing – against the law C. Nonprice competition: ads, promotions, etc.

IV. Monopolies A. One seller dominates market B. Very few true monopolies – why? C. Types of monopolies 1. Natural – costs of production minimized by having one provider a. Example:

Game Theory (11/5)  When the decisions of two or more firms significantly affect each others’ profits, they are in a situation of interdependence.

A Payoff Matrix ADM Ajinomoto Produce 30 million pounds ADM makes $180 million profit Produce 40 million pounds Produce 30 million pounds Produce 40 million pounds Ajinomoto makes $180 million profit. Ajinomoto makes $200 million profit. Ajinomoto makes $150 million profit. Ajinomoto makes $160 million profit. ADM makes $150 million profit ADM makes $200 million profit ADM makes $160million profit

The Prisoners’ Dilemma  Economists use game theory to study firms’ behavior when there is interdependence between their payoffs. The game can be represented with a payoff matrix. Depending on the payoffs, a player may or may not have a dominant strategy.  When each firm has an incentive to cheat, but both are worse off if both cheat, the situation is known as a prisoners’ dilemma.  The game based on two premises: (1) Each player has an incentive to choose an action that benefits itself at the other player’s expense. (2) When both players act in this way, both are worse off than if they had acted cooperatively.

A Nash equilibrium, also known as a non-cooperative equilibrium: players choose their dominant strategy

The Prisoners’ Dilemma Don’t confess Confess Louise Louise gets 2-year sentence. Louise gets 5-year sentence. Thelma gets 20-year sentence. Thelma gets 5-year sentence. Louise gets 15-year sentence. Louise gets 20-year sentence. Thelma gets 15-year sentence. Thelma gets 2-year sentence. Thelma

Cold War Game Theory: What is each player’s dominant strategy? What is the Nash equilibrium in this game? Is this a prisoner’s dilemma? Jack Nikita Build missile -10 Don’t build missile Build missileDon’t build missile

Warm-up: November 6, 2015 For each problem: Create a payoff matrix Identify each player’s dominant strategy. Find the Nash Equilibrium. Is it a prisoner’s dilemma? 1.Coke and Pepsi can choose to advertise or not. If both firms advertise, they both will earn 100. If no one advertises, both will earn 80. If one advertises while the other does not, the one that advertises will earn 120, and the one that doesn’t will earn You are in a class with one other student. Your teacher has said that the final exam will be graded so that anyone who scores the class average will receive an “B” in the class. Anyone who scores above the average will receive an “A” in the class, and anyone who falls below average will get an “F”. You are smarter than the other guy. You and the other guy agree to not take the exam so the class average is zero and you both receive a “B”.

Monopolies Continued (11/6) 2. Geographic – simple absence of other sellers a. Example:

3. Technological – ownership/control of manufacturing method/process/scientific advance a. Patents: b. Example:

4. Government – products and services that the public cannot adequately provide

Warm-up Part 1: November 9 Determine which market structure each of the following businesses/industries fall under: Wheat Power company Allstate Insurance Hewlett-Packard (HP) Perfect CompetitionMonopolistic Competition OligopolyMonopoly T-Shirts Tomatoes Lone motel in town Coca-Cola City water supply Christmas ornaments Cotton Shoes

Let’s say that I assigned a major project for this class that involved some research, a brief oral presentation, and a well-designed visual aide. You can pick the groups yourself, and you can have as many group members as you want. How many would you choose? Why do you think this is the best amount? What if you had 1 or 2 fewer than this perfect amount? 1 or 2 more?

Theory of Production (11/9) Definition: The relationship between the factors of production and the output of goods/services. I.Law of Variable Proportions: output will change as one input varies while others are held constant A. Example: farmers and fertilizer

Making paper cups What you’ll need 1. Paper 2. Markers (1 red and 1 blue) 3. Workers Which are fixed inputs? Which are variable?

We’ll go through 4 rounds of production. Round 1 will start with one worker, Round 2 will have 2 workers, and so on. You MUST follow the directions PERFECTLY – no shortcuts! I must have good, quality products made. This is not a race, so chill out. Each round will take 90 seconds. After each round, note total product and marginal product on your group’s scorecard. For each round, you have to start back at zero product – you can’t count each round as an accumulation.

II. The production schedule # of workers total product marginal product Total product = total output produced by firm Marginal product = extra output or change in total product caused by the addition of one more unit of variable input (in this case, workers)

# of workers total product marginal product Stage 1: increasing returns: Stage 2: diminishing returns: Stage 3: negative returns:

Closing Questions Along with production per employee, what else must employers also consider when deciding on how many workers to hire? What is “overhead”?

Cost, Revenue, and Profit Maximization (11/10) First: Fill in the marginal product column on chart. Look familiar? I.Measures of cost A.Total cost = Fixed costs + Variable costs 1.Fixed costs: 2.Variable costs:

B. Applying cost principles 1. Example 1: Self-service 24 hr gas station a. Fixed costs: b. Variable costs: 2. Example 2: Internet stores a. Fixed costs: b. Variable costs: Fill in the total cost column on your chart.

C. Marginal cost = extra cost incurred when business produces one extra unit Marginal cost in this example only = $90/marginal product 1 worker: Marginal product = 7 Change in total variable cost = $90 $90/7 = $12.86  marginal cost when one worker makes 7 items 2 workers: Marginal product = 13 Change in total variable cost = $90 $90/13 = $6.92  marginal cost when two workers make 13 items Complete the rest of the marginal cost column.

III. Measures of Revenue A. Total revenue: # of units sold x price (5 units $15 each = $75) B. Marginal revenue: extra revenue associated with the production and sale of one extra unit C. Look on your chart: why does the marginal revenue stay constant at $15? D. Fill in the total revenue column on your chart.

IV. Total profit: Total revenue – total costs A. Fill in the total profit column on the chart.

Analysis 1. The break-even point: total output needed to cover its total costs a. How many workers do we need to hire? 2. The profit-maximizing quantity of output: marginal cost = marginal revenue a. How many workers should we hire?

Total workers should be $1255…oops

Externalities – unintended side effects that fall on people not involved in activity Positive externalities: benefit received from outside 3 rd party Negative externalities: harm/inconvenience suffered by outside 3 rd party

For each of the following situations, come up with examples of the costs and benefits (non-monetary AND not immediately expected) associated with each. Rows 1-2: A new highway is constructed. Rows 3-4: The airport nearby has doubled in size and now offers international flights, not just domestic regional flights. Rows 5-7: A new stadium for the A’s is built in downtown Oakland.

Practice with Externality For each of the following situations, determine (1) if there is a positive or negative externality created and why, and (2) what should be done to promote more of that behavior or fix the problem created. 1. Mr. Smith plants lots of colorful flowers in his front yard. 2. Your next-door neighbor likes to build bonfires in his backyard, and sparks often drift onto your house. 3. Stacey, who lives next to an apple orchard, decides to keep bees to make honey. 4. Nick buys a large SUV that consumes a lot of gasoline.