Oligopoly Policy: Antitrust Antitrust policy Government efforts
that attempt to prevent oligopolies from behaving like monopolies
Sherman Act of 1890 Every person who shall monopolize, or attempt
to monopolize, or combine or conspire with any other person or
persons, to monopolize any part of the trade or commerce among the
several States, or with foreign nations, shall be deemed guilty of
a felony.
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Oligopoly Policy: Antitrust Clayton Act of 1914 added a few
more items that were considered detrimental Price discrimination
that lessens competition Exclusive dealings that restrict the
ability of a buyer to deal with competitors Tying arrangements
(similar to bundling) Mergers that lessen competition Prevents a
person from serving as a director on more than one board in the
same industry
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4 Strategic Behavior Perfect Competition Only strategy is to
reduce costs Price-taker => output decisions do not affect
market price cross-price elasticity = -1 (perfect substitutes)
Own-price = - Monopoly Price-Searcher: output decision determines
price Cross-price = 0 (no substitutes) Own-price:
10 Four-Firm Concentration Ratio The four-firm concentration
ratio (CR4) measures market concentration by adding the market
shares of the four largest firms in an industry. If CR4 > 60,
then the market is likely to be oligopolistic.
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11 Example FirmMarket Share Nike62% New Balance15.5% Asics10%
Adidas4.3%
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12 Figure 12.11 Four-Firm Concentration Ratio (CR4) for
Selected Industries in 1997
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13 The Herfindahl-Hirschman Index The Herfindahl-Hirschman
index (HHI) is found by summing the squares of the market shares of
all firms in an industry. Advantages over the CR4 measure: Measures
how concentrated the market is Large market shares -> squared
-> HHI increases exponentially (rather than linearly) Uses data
on all firms
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14 Example FirmMarket Share Nike62% New Balance15.5% Asics10%
Adidas4.3%
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15 Example (contd) FirmMarket Share Nike22.95% New
Balance22.95% Asics22.95% Adidas22.95% What happens if market
shares are evenly distributed?
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16 Non-competitive Oligopolies Non-competitive/collusive
behavior (cooperative oligopolies) Cartels: firms may collude to
raise prices and restrict production in the same way as a monopoly.
Where there is a formal agreement for such collusion, this is known
as a cartel.colludemonopolycartel Dominant Firm/Price Leader:
collude in an attempt to stabilize unstable markets, so as to
reduce the risks inherent in these markets for investment and
product development.collude does not require formal agreement
although for the act to be illegal there must be a real
communication between companies for example, in some industries,
there may be an acknowledged market leader which informally sets
prices to which other producers respond, known as price
leadership.price leadership Stackleberg price-leader model
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17 An Example of a Cartel Organization of the Petroleum
Exporting Countries (OPEC) is an international cartel made up of
Algeria, Angola, Ecuador, Indonesia, Iran, Iraq, Kuwait, Libya,
Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and
Venezuela.cartelAlgeriaAngolaEcuadorIndonesia
IranIraqKuwaitLibyaNigeriaQatarSaudi ArabiaUnited Arab
EmiratesVenezuela Principal aim of the organization, according to
its Statute, is the determination of the best means for
safeguarding their interests, individually and collectively;
devising ways and means of ensuring the stabilization of prices in
international oil markets with a view to eliminating harmful and
unnecessary fluctuationsStatuteoil markets OPEC triggered high
inflation across both the developing and developed world using oil
embargoes in the 1973 oil crisis.1973 oil crisis OPEC's ability to
control the price of oil has diminished due to the subsequent
discovery/development of large oil reserves in the Gulf of Mexico
and the North Sea, the opening up of Russia, and market
modernization.price of oilGulf of MexicoNorth SeaRussia OPEC
nations still account for two-thirds of the world's oil reserves,
and, in 2005, 41.7% of the world's oil production,
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18 Game Theory Models of Oligoploy Stackelberg's duopoly. In
this model the firms move sequentially (see Stackelberg
competition).StackelbergduopolyStackelberg competition Cournot's
duopoly. In this model the firms simultaneously choose quantities
(see Cournot competition).CournotduopolyCournot competition
Bertrand's oligopoly. In this model the firms simultaneously choose
prices (see Bertrand competition).Bertrand competition Monopolistic
competition. A market structure in which several or many sellers
each produce similar, but slightly differentiated products. Each
producer can set its price and quantity without affecting the
marketplace as a whole.Monopolistic competition
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Anti-Competitive Pricing Tactics Predatory Pricing Predatory
pricing Firms set prices below AVC with the intent of driving
rivals from the market Illegal, but difficult to prosecute Often
difficult to distinguish between predatory pricing and intense
market competition Examples: Wal-Mart is often assumed to be a
predator but is never prosecuted Microsoft was prosecuted
eventually for tying, but not for predatory pricing
Network Externalities Network externality Occurs when the
number of customers who purchase a good influences the quantity
demanded Often is a factor in whether the resulting market
structure is oligopoly Classic examples include technologies such
as cell phones and fax machines A new technology has to reach
critical mass before it is effective for consumers How useful would
a fax machine be if only 10 people had the machine?
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Network Externalities Positive network externalities Bandwagon
effect Individual preferences for a good increase as the number of
people buying the good increases Internet, social networks, cell
phones, fax machines, MMORPGs, video game consoles, fads, night
clubs
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Network Externalities Negative network externalities Snob
effect Individual preferences for a good decrease as the number of
people buying the good increases Exotic pets and sports cars
Hipsters Services that are prone to congestion. Pool, beach,
student union gets too crowded, and you dont want to go.
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Network Externalities Switching costs Costs that are incurred
by a consumer when he switches suppliers Another advantage to a
firm having a large network Demand for existing product becomes
more inelastic if costs of switching to a new product are higher
Example: cellphone providers Early termination fees Free in-network
calls FTC reduced switching costs in 2003 by requiring phone
companies to allow a consumer to take their old phone number to a
new provider
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Price TakingPrice Making Perfect Competition Monopolistic
Competition OligopolyMonopoly 1. Many firms 1. Few firms1. One firm
2. Atomistic assumptionfirms are so small that no single buyer or
seller has ANY control over price 2. Each firm has some control
over price 2. Medium to high entry barriers to entry. The firm has
more control over price. 2. Extremely high barriers to entry. The
firm has significant control over price. 3. Firms are so small that
no single buyer or seller has ANY control over price 3. Product
differentiation 3. Mutual interdependence 3. The firm IS the
industry 4 Homogeneous output4. Easy entry/exit 4. Long run
economic profit possible 4. Long run economic profit probable 5.
There is perfect information about product price and quantity 5.
Output can be homogenous or differentiated 6. Easy entry/exit
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Conclusion Oligopoly A market structure in which there are a
small number of firms Firms interact strategically Can be
competitive (results closer to monopolistic competition) Can be
collusive (results closer to monopoly) Antitrust policies Restrain
excessive market power Give incentives to compete instead of
collude Each industry examined on a case-by-case basis
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Summary Oligopoly: a small number of firms sell a
differentiated product in a market with significant barriers to
entry. The small number of sellers in oligopoly leads to mutual
interdependence. An oligopolist is like a monopolistic competitor
in that it sells differentiated products. It is also like a
monopolist in that it enjoys significant barriers to entry.
Oligopolists have a tendency to collude and to form cartels in hope
of achieving monopolylike profits.
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Summary Oligopolistic markets are socially inefficient since P
> MC. The result under oligopoly will fall somewhere between the
competitive and monopoly outcomes. Game theory helps determine when
cooperation among oligopolists is most likely. In many cases,
cooperation fails to materialize because decision-makers have
dominant strategies that lead them to be uncooperative. This causes
firms to compete with price, advertising, or R & D when they
could potentially earn more profit by curtailing these
activities.
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Summary A dominant strategy ignores the long run benefits of
cooperation and focuses solely on the short run gains Whenever
repeated interaction exists, decision- makers fare better under tit
for tat, an approach that maximizes the long run profit Antitrust
laws are complex and cases are hard to prosecute, but they provide
firms an incentive to compete rather than collude The presence of
significant positive network externalities causes small firms to be
driven out of business or to merge with larger competitors
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Practice What You Know Which of the following is most likely to
become an oligopoly industry? A. An industry without entry barriers
B. An industry where economies of scale are very small C. An
industry with sizeable network effects D. An industry with hundreds
of competitors
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Practice What You Know Which of the following is true about
oligopoly? A. Oligopolies are illegal in the United States B. All
oligopoly industries will try to collude C. Oligopoly industries
generally have a high concentration ratio D. Firms in an oligopoly
act independently from other firms in the oligopoly
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Practice What You Know Why do cartel deals tend not to last? A.
Each firm in the cartel has a dominant strategy to be uncooperative
and defect from the cartel agreement B. Cartel profits are lower
than competitive profits C. Cartels create more competition D.
Firms know that cartels are often illegal so they break the deal to
escape
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Practice What You Know What is an example of a good with a
positive network effect? A. An online multiplayer game B. A
fast-food burger C. A dry-cleaning service D. A cable TV
subscription
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Practice What You Know How can a pure strategy Nash equilibrium
be accurately described? A. It is always the overall best outcome
B. Its an outcome in which neither player wants to change
strategies C. It can only be reached by collusion D. One exists in
all games