Anti-Competitive Behavior Monopolies, Barriers to Entry and How to Construct Them

Barriers to Entry Monopolist needs a “barrier” (or obstacle) to entry so that potential competitors can’t get into the Monopolist’s market Monopolies earn + long-run and short-run profits that would “normally” attract new entrants (i.e. potential competitors) Long-run profits = 0 in competitive firms where any one can enter the market (no barriers)

How Did It Happen? Monopoly Firm that is the sole seller of a product without close substitutes Barriers to entry – prevent firms from entering this market when there are + economic profits Legal and Cost Barriers NBA, Medical, Patents (pharmaceutical) Monopoly resources Oil, Diamonds, Professional Sports Government regulation Comcast High Cost Barriers to Enter the Market – Aerospace

The Monopolist’s Profit Image: Animated Figure 10.3 Lecture notes: Remember that the demand function represents willingness to pay (WTP) of consumers. At the quantity q, the monopolist charges a price equal to the height of the demand, or equal to the WTP of the consumers at that quantity. Recall the area of a rectangle is length * height. Here, the length of the green profit rectangle is the number of units the monopoly sells. The height of the rectangle is average profit per unit. Thus, we get the following formula from the graph: Total profit = (number of units sold) * (average profit per unit)

The Problems with Monopoly Monopolies can make societies worse off Restricting output and charging higher prices compared to competitive markets Operate inefficiently (deadweight loss). This is referred to as market failure. Less choices for consumers Unhealthy competition called “rent seeking” Lecture notes: The word “monopoly” often has a negative connotation. With a bad economy, we often hear people complaining about “greedy companies,” “Wall Street,” “banks”, etc. However, these entities are often not monopolies. Monopolies are often economically inefficient. This comes from the fact that P > MC and that output is restricted compared to competitive markets.

Deadweight Loss of Monopoly Image: Animated Figure 10.5 Lecture notes: From text: The monopolist charges too high a price and produces too little of the product, so some consumers who would benefit from a competitive market lose out. Since the demand curve, or the willingness to pay, is greater than the marginal cost between output levels QM and QC, society would be better off if output was expanded to QC. But a profit-maximizing monopolist will limit output to QM. The result, a deadweight loss equal to the area of the yellow triangle, is inefficient for society.

Monopoly Problems Few choices Restricts consumer ability to put downward pressure on prices. No substitutes. Cable companies and bundling. Monopolies can force you to buy more. And not necessarily the channels you want Lecture notes: With fewer choices (no substitutes), consumers may be “forced” to pay higher prices for goods and services since they have no option to buy cheaper substitutes. In addition, multiproduct monopolies (cable companies, for example) may bundle other goods together that you must also buy. This raises prices and profits for the firm and may make consumers buy more goods than they want to. Rent seeking: think about this as spending time, effort, and resources in ways that attempt to gain monopoly or keep your existing monopoly. Rather than spending money on making a better product or improving production, you spend money on lobbyists and lawyers, and spend resources defending your monopoly. This is an economically inefficient use of resources in this market. The firm is attempting to eliminate competition, but this act doesn’t benefit consumers.

Types Barriers That Exist and Can Explain Why a Monopoly Continues to Persist Legal Patent – exclusive (property) right to the particular ingredients (e.g., Big Pharma) Trademark – exclusive right to product name (brand loyalty) Granted/protected by the government Meant to encourage investment in research and development of new products/drugs Shkreli claims that the Turing Pharm. is increasing the price for its prescription drug to conduct R&D for new drugs Shkreli was able to get a new patent for this drug by showing it could be used to treat a new disease – no new development; just a new application

What’s So Bad About Monopolies Martin Shkreli In September 2015, Shkreli received widespread criticism when Turing obtained the manufacturing license for the antiparasitic drug Daraprim and raised its price by 5,556 percent (from US$13.50 to US$750 per tablet) leading him to be referred to by media as the "most hated man in America".[4]

Types Barriers That Exist and Can Explain Why a Monopoly Continues to Persist Cost Barrier (High Fixed Costs) Large Initial Costs for Plant, Equipment (i.e., Capital Structures) can prevent entry Aerospace Has both economies of scale and High Fixed (Plant) Cost to enter market Market currently dominated by 2 large manufacturers (Airbus and Boeing) Nearly 100% market share (Europe, US and Asia)

Types Barriers That Exist and Can Explain Why a Monopoly Continues to Persist Cost Barrier (High Fixed Costs) Large Initial Costs for Plant, Equipment (i.e., Capital Structures) can prevent entry Aerospace Has both economies of scale and High Fixed (Plant) Cost to enter market Market currently dominated by 2 large manufacturers (Airbus and Boeing) Nearly 100% market share (Europe, US and Asia)

Aerospace Boeing and Airbus – Market Share

Types Barriers That Exist and Can Explain Why a Monopoly Continues to Persist Limited/Scarce Natural Resource Entry is limited by “limited” access to the resource Oil, Diamonds, Lithium Ion batteries Very few places to access the resource Once property rights are established – only owner has access to the resource Oil – appox 14 major oil producers (really only 3 or 4 are major producers) Prior to off-shore drilling and fracking Requires cooperation among members to “fix” prices above competitive market price

Economies of Scale “Natural” Monopoly Having 1 firm produce the good, rather than several smaller firms, reduces the average cost of production “economies of scale” are present However, having the government “license” the market to 1 provider can result in “monopoly” like pricing unless they also regulate its price Most require firm to set price at ATC + 10% (assumes a normal ROR is ~ 10%) “cost plus” pricing

How A Firm Could Limit/Reduce Competition Mergers Merging with a competitor can Reduce competition Possible to increase price without worrying about competitor’s offering a lowering price Rational for DOJ, FCC, FTC being involved and having to approve mergers

Are All Mergers Anti-Competitive? Conglomerate Merger of firms in unrelated industries Vertical Merger Merger of firms upstream/downstream from each other in production stream FCC: ownership of more than 1 media type Microsoft Horizontal Mergers Firms in the same industry Telecomm industry AT&T divestiture Verizon/GTE merger; RBOC mergers Would the HHI be a valid measure of competitiveness?