Profit Maximisation & Market Structure Lecture Object ives: 1. Examine profit maximisation under perfect competition & oligopoly 2. Introduce game theory.

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Presentation transcript:

Profit Maximisation & Market Structure Lecture Object ives: 1. Examine profit maximisation under perfect competition & oligopoly 2. Introduce game theory through an evaluation of oligopoly & duopoly

ALTERNATIVE MARKET STRUCTURES Classifying markets by degree of competition – number of firms – freedom of entry to industry – nature of product – nature of demand curve Structure, Conduct & Performance (SCP)

PERFECT COMPETITION Assumptions – firms are price takers – freedom of entry – identical products – perfect knowledge Short-run equilibrium of the firm

OO S D (a) Industry P£ PePe (b) Firm AR D = AR = MR Q (millions) Q (thousands) Short-run equilibrium of industry and firm under perfect competition

OO S D (a) Industry P£ Q (millions) PePe (b) Firm AR D = AR = MR MC QeQe Short-run equilibrium of industry and firm under perfect competition Q (thousands)

OO S D (a) Industry P£ Q (millions) PePe (b) Firm AR D = AR = MR MC QeQe AC Short-run equilibrium of industry and firm under perfect competition Q (thousands)

OO S D (a) Industry P£ Q (millions) PePe (b) Firm AR D = AR = MR MC QeQe AC Short-run equilibrium of industry and firm under perfect competition Q (thousands) S1S1 P1P1 AR 1

Duopoly & Oligopoly – barriers to entry (economic & strategic) – interdependence of firms – incentives to compete versus incentives to collude Imperfect Competition

One – shot commercial game: UK Motor Industry Ford UK Price cutAggressive Adverts FIATPrice cut60, 4075, 25 Aggressive Adverts50, 5065, 35 Ford should cut price Rover should cut price Dominant strategy game Zero – sum game Duopoly & Game Theory: Non-collusion

Iterated Commercial Game: Business Joint Venture Co-operateDefect Co - operate Defect UK CHINA 3, 3 5, 0 0, 5 1, 1 Permanent co-operation = highest return ‘Tit – for – tat’ = return of 2.5 Range of other strategies = All D; Random; Tit – for –two –tats Axelrod (1984) found Tit-for-tat the winning strategy

Reading: Begg, D. et al, (2008), Economics, 9 th Ed., Chpts. 8 & 9 Cook, M. and Farquarson, C., (1998), Business Economics, Chpt. 9 Dixit, A. and Nalebuff, B., (1991), Thinking Strategically, (various chapters). Douma, S. and Schreuder, H., (2002) Economic Approaches to Organisations, 3 nd Ed., Chpt. 5 Griffiths, A. & Wall, S. (2005), Economics for Business & Management, Chapter 6 Film Reference: “A Beautiful Mind”, (2002), Dreamworks & Universal Pictures, featuring Russell Crowe