Nature+and+Function+of+Product+Markets

Swerdlow and Hoffer I. Elasticity Important Terms:


 * Elasticity** - How demand changes with price

1) Number of close substitutes 2) Proportion of income 3) Time 4) Luxury vs. Necessity
 * Determinants of price elasticity of demand:**

Coefficient Ed -

Ed=

Ed>1 is elastic Ed<1 Is inelastic Ed=1 Unit elastic

Elastic Demand



Inelastic Demand

Unit Elastic



Total Revenue = P x Q

Elastic: Price goes down, TR goes up Inelastic: Prices goes down, TR goes down Unit Elastic: Price goes down, TR does not change


 * Price Elasticity of Supply**

price elasticity of supply ||  = || percentage change in quantity supplied percentage change in price ||  ||
 * 

Immediate market period Short Run / Elastic Supply Curve Long Run / Very Elastic
 * **Market Periods:**


 * Cross Elasticity

Substitute good = Positive Coefficient Complementary good = Negative Coefficient Independent good = 0 Coefficient **

Normal goods = Positive Coefficient Inferior goods = Negative Coefficent **
 * Income Elasticity of Demand

II. Consumer and Producer Surplus III. Consumer Behavior IV. Costs of Production V. Four Market Models: PC, MC, OL, M - Characteristics, profit max Characteristics: Very large number of firms Standardized product with a high degree of substitutability Price takers Free entry and exit Demand is perfectly elastic AR = TR/Q MR = Change in TR / Change in Q P = MR = AR Profit Max: MR = MC
 * Pure Competition

Firm will shut down when MR = AVC Normal Profit at MR = ATC

** Single Seller No close substitute Price Maker Blocked Entry-legal, technological, control of key resources non-price competition-advertising MR is less than price ** because as more units of output are produced, the marginal revenue is equal to the price of the unit minus the price cuts of all the units before it. Because the monopoly produces at MR = MC, it produces at a lower quantity and higher price than a purely competitive firm, so an efficiency loss occurs.
 * Pure Monopoly

Price discrimination Ability to segregate buyers No resale At least some monopoly power

Regulated Monopoly

Socially optimal price is P = MC Fair-return price is P = ATC Monopoly price is MR = MC


 * Monopolistic Competition

Characteristics Relatively large number of sellers-
 * Each firm has limited control over market price


 * No collusion possible

** Product differentiation- Brand names and packaging Easy entry and exit
 * Firms not interdependent
 * Product attributes
 * Service
 * Location

Herfindahl Index = (%Firm A)^2+(%Frim B)^2+(%Firm C)^2...



Monopolistically Competitive firms only earn normal profit in long run.


 * Oligopoly

Few large producers Can be homogenous or differentiated Price control by mutually interdependent

If there is collusion, monopoly graph applies.

** 1) Predict the changes in TR. A) Price falls and demand is elastic B) Price Rises and demand is elastic C) Price falls and demand is inelastic

2) Which of the following has the most elastic demand coefficient A) Cheese B) Muenster Cheese C) Boars Head Muenster Cheese

3) Which of the following statements is true regarding a perfectly competitive firm

A) Marginal revenue differs from average revenue B) Demand is downward sloping C) Average revenue differs from price D) Price is determined by the equilibrium in the entire market E) The demand curve lies above the marginal revenue curve

4) In order to establish a socially optimal price, the government should select a price at which-

A) Marginal revenue equals marginal cost B) Demand curve intersects the total cost curve C) Average revenue equals zero D) Marginal cost intersects demand curve

5) In the long run a monopolistically competitive firm

A) Earns a positive economic profit B) Earns zero economic profit C) Has a vertical demand curve D)Earns a negative economic profit

6) In order for a monopoly to price discriminate, it must

A) Be able to prevent resale of its products B) have market power C) have buyers with different elastic demand curves D) All the above

7) The concentration ratio for a monopoly is

A) 0 B) 5 C) 100 D) 10

8) In an oligopoly market firms

A) have no market power B) are interdependent C) are large in number D) cannot earn economic profits

9) The products of oligopolies are

A) Homogeneous B) Differentiated C) Homogeneous or Differentiated D) Unique

10) P = MC is what type of efficiency

A) Technical B) Productive C) Allocative D)Distributive
 * Free Response**

1) Due to a new technological advancement, MATAM Inc. is realizing monopolistic power

A) Why does the demand curve lie above the MR curve?

B) MATAM Inc. is currently enjoying short term economic profits. Draw a graph that includes the following

i. Profit maximizing output ii. profit maximizing price iii. shaded economic profit  C) State what happens to MATAM Inc.'s demand curve as other firms acquire the same technology.

Answers: 1) + - - 2) C 3) D 4) D 5) B 6) D 7) C 8) B 9) C 10) C Free Response A) MATAM must lower the price on all units as quantity increases, therefore the marginal revenue from each good sold is the price minus the change in price of all goods before

B)  C) The demand curve will shift to the left because as new firms acquire the technology, the amount of substitute goods increases

News Article http://www.nytimes.com/2009/08/27/business/27views.html?_r=1&scp=3&sq=oligopoly&st=Search-SABMIller and Molson Coors are colluding and demonstrating monopoly power by raising prices, and with 80% of the market between them, the government is beginning to ask questions. VI. Efficiency ||