ECW2731

Weeks 7 & 8

Weeks 7 & 8

Competition, market
structures and
business decisions
 Examination structure
ECW2731
Weeks 7 & 8

.      Exam duration 120 minutes writing time

.      Reading time 10 minutes

.      Total number of questions 5

.      Students must attempt all questions

.      Use of calculators is permitted

Please note, original hand written notes or

computer printouts or photocopies are not
 Examination structure
ECW2731
Weeks 7 & 8

        Section 1. (Microeconomic theory from the Managerial 
Perspective) – attempt 
Q 1-4
Four theoretical questions. May include discussion of examples. Brief answers are
expected including definitions and diagrams where approporiated and/or
specifically asked for.

   Section 2. (Research Question) –attempt only one question 5 or 6 
5. “Discuss possible impact of the introduction of carbon emission trading scheme in
Australia on the following industries:
Electricity generation
Car manufacturing and import
Tourism and hospitality
Forestry

6. Apply question 5 to any country of your choice.

 ECW2731
Weeks 7 & 8
Structure
Weeks
Weeks7-8
7-8
Competition, Week
Week99
Competition,
market Pricing
Pricingstrategies
strategiesand
andpractices
marketstructures
structuresand
and practices
business decisions
business decisions

Week
Week1010
Weeks
Weeks55- -66 Business
Businessand
andGovernment.
Government.
Production
Productionand
andCosts
Costs

Week
Week11 11
Weeks
Weeks3-4 Capital
Demand
3-4 Capitalbudgeting
budgeting
Demandanalysis
analysis Managerial
and estimation Managerial
and estimation Economics
Economics
Week.
Week.12
12
Week
Week22
Basic
Basiceconomics
economicsprinciples: Research
principles: Researchquestion
question
demand and supply.
demand and supply.
Business
Businessandandcurrent
currenteconomic
economic
situation.
situation.
Week1
Week1
Introduction.
Introduction.The
Thenature
natureofof
managerial
managerialeconomic
economic
decision making
decision making
 Competition,
Competition,market
marketstructures
structuresand
and
business decisions
business decisions
ECW2731
Weeks 7 & 8
Learning
Learningobjectives
objectives

What
Whatisisthe
themarket
marketStructure
Structure
How
Howdoes
doescompetition
competitionaffect
affectbusiness
business
decisions in different market
decisions in different market
structures?
structures?

Perfect
Perfectcompetition;
competition;monopoly;
monopoly;
oligopoly; monopolistic competition
oligopoly; monopolistic competition

Competitive
Competitivestrategies.
strategies.
Measurement
Measurementofofmarket
marketstructures
structures
Market
Marketstrategies
strategiesinindifferent
differentmarket
market
structures.
structures.

Non-price
Non-pricecompetition.
competition.

Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
and
horizontal coordination.
horizontal coordination.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Reading
Reading
Weeks 7 & 8

Hirschey, Chapters 10, 12, 13, & 14

 ECW2731
Weeks 7 & 8 Table 10.1 Characteristics of Market Types

Market Examples Number of Type of Power of Barriers Non-price

structure producers product firm over to entry competition
price

Perfect Parts of Many Standardized None Low None

competition agriculture are
reasonably
close
Monopolisti Retail trade Many Differentiated Some Low Advertising and
c product
competition differentiation

Oligopoly Computers, oil, Few Standardized Some High Advertising and

steel or product
differentiated differentiation

Monopoly Public utilities One Unique product Consider- Very high Advertising
able

7
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures
Weeks 7 & 8

What is the market structure?

• The competitive environment in the market for

any product is the market structure faced by the
firm
– Is measured in terms of
• the number of the actual buyers and sellers plus potential
entrants
• Barriers to entry and exit
• Capital requirements
• Price vs Non-price competition
• Etc
– Potential entrants pose a sufficiently credible threat of
entry to affect price/output decisions of incumbents
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures
Weeks 7 & 8

Factors that Shape the Competitive

Environment
• Product Differentiation
– R&D, innovation, and advertising are important in
many markets.
• Production Methods
– Economies of scale can preclude small-firm size.
• Entry and Exit Conditions
– Barriers to entry and exit can shelter incumbents
from potential entrants.
• Buyer Power
– Powerful buyers can limit seller power.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures
Weeks 7 & 8

The
Thefirm
firminincompetitive
competitivemarkets
markets Non-perfect
Non-perfectcompetition
competition

Perfect
Perfectcompetition
competition Monopoly
Monopoly

Oligopoly
Oligopoly

Monopolistic
Monopolistic
competition
competition
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

❖ Profit maximiser
❖ Identical product
❖ Very small share of the market
❖ Price-taker
❖ Produces a homogeneous product
❖ Perfect information
❖ No barriers to entry (legal, technological, or resource)
❖ No technical progress
❖ No investment lag - Immediate implementation of
production decisions)
❖ Homogeneous goals of the owners and managerial
staff
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

• Examples of Competitive Markets

– Agricultural commodities.
– Some prominent markets for intermediate goods and
services.
– Unskilled labor market.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

• Profit Maximization Imperative

– Normal profit is return necessary to attract and maintain
capital investment.
– Efficient firms can earn normal profit.
– Inefficient firms suffer losses.

• Role of Marginal Analysis

– Set Mπ = MR – MC = 0 to maximize profits.
– MR=MC when profits are maximized.
 Profit maximization in a perfectly 
ECW2731
Weeks 7 & 8

competitive market
• (see book)
• P = MC
• Marginal cost curve left of shutdown level (min. variable cost) is supply 
curve
• P = MR = MC = AC
• Firm produces at minimum of average costs! (optimal outcome for 
industry)
• In a constant-cost industry increase in supply will lead in the long term to 
constant prices (i.e. horizontal supply curve)

14
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

Marginal Cost and Firm Supply

Short-run Firm Supply
– Competitive market price
(P) is shown as a
horizontal line because
P=MR.
– Firm’s marginal-cost curve
shows the amount of
output the firm would be
willing to supply at any
market price.
– Marginal cost curve is the
short-run supply curve so
long as P > AVC .
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

Long-run Firm Supply

Marginal cost curve
is the long-run
supply curve so
long as P > ATC.
In long run, firm
must cover all
necessary costs
of production and
earn a normal
profit.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

Long Run Normal Profit

Equilibrium
With a horizontal market
demand curve, MR=P.
P=MR=MC=ATC.
There are no economic
profits.
All firms earn a normal
rate of return.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Perfect competition
ECW2731 Marketstructures
structures
Weeks 7 & 8
Breakeven point
Price, cost
per unit
MC
Poffpeak – break even
ATC
price off peak. At this
price the firm expects
AVC to return only variable
Ppeak D
costs and can produce
quantity Qoffpeak
B
Ppeak- break even price at
Poffpeak peak. This is when the
firm expects to return
both fixed and variable
costs producing
Q peak quantity Qpeak
0 Qoffpeak
Output per time period
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures “Perfect competition” – competitive markets
Weeks 7 & 8

Competitive Market Supply Curve

Market Supply With a Fixed Number of
Competitors
Supply is the sum of competitor
output.
Market Supply With Entry and Exit
Entry results in more firms,
increased output, a rightward
shift in the supply curve, and
drives down prices and profits.
Exit reduces the number of firms,
decreases the quantity of output,
shifts the supply curve leftward,
and allows prices and profits to
rise for remaining competitors.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Perfect competition
ECW2731 Marketstructures
structures
Weeks 7 & 8

Market price
determination
• Negatively sloped demand
curve
Price per Supply
• Positively sloped supply unit ($)
10
curve

8 P=–$0.254 + Q
$0.000025
6

4
P= $40
–$0.0001
Q
2
Demand

0 50 100150200250300350400
Quantity per time period (millions)
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

Basic Properties
• One firm in industry
• Profit-maximiser
• Faces market demand curve
• One product
• No close substitutes
• Price-maker
• No restrictions on resources
• Blockaded entry and/or exit
• Imperfect dissemination of information
• Opportunity for economic profits in long-run equilibrium.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

• Examples of Monopoly
– Electricity utilities,
– Gas
– Water
– Public Tramsport
– Telecommunications
 ECW2731
Weeks 7 & 8
Monopoly graph

23
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

Profit Maximization in Monopoly Markets

• Price/Output Decisions
• A monopoly firm is the
market.
• Market and firm demand
curve slopes downward.
• Monopoly demand curve is
always above the marginal
revenue curve, P = AR >
MR.
• Monopoly position allows
above-normal profits.
P > AC in long-run
equilibrium.
• Set Mπ = MR - MC = 0 to
maximize profits.
• MR=MC at optimal output.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

Social Costs of Monopoly

• Monopoly Underproduction
Monopolists produce too little
output.
Monopolists charge prices
that are too high.
• Deadweight Loss from
Monopoly
Monopoly markets creates a
loss in social welfare due
to the decline in mutually
beneficial trade activity.
There is also a wealth
transfer problem
associated with monopoly.
Under monopoly,
consumer surplus is
transferred to producer
surplus.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

Social Benefits From Monopoly

• Economies of Scale
Monopoly is sometimes the natural result of vigorous
competitive forces.
In natural monopoly, LRAC declines continuously and one
firm is most efficient.
Some real-world monopolies are government-created or
government-maintained.
• Invention and Innovation
Public policy sometimes confers explicit monopoly rights to
spur productivity.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

Monopoly Regulation

• Dilemma of Natural Monopoly

Monopoly has the potential for efficiency.
Unregulated monopoly can lead to economic profits and
underproduction.

ECW3830 COMPETITION AND REGULATION

 ECW2731
Weeks 7 & 8 Monopolists produce less, price higher than 
firms in competitive equilibrium

MR = P(1 + 1/η )

• Situation is inefficient, insofar as the sum of consumer and producer surplus is concerned
What is producer and consumer surplus?
–
• Monopolist has to take demand conditions explicitly into account
• Why is no other firm entering the market???

28
 ECW2731
Weeks 7 & 8
Other aspects of monopoly

• “Natural monopoly” if minimum of average cost

occurs only at very high output level (minimum
efficient scale) ==> there is only place for one
firm in the market!
• Measure of monopoly power (markup of price
over cost):
P − MC
markup =
MC
29
 ECW2731
Weeks 7 & 8

Sources of monopoly power
• Natural monopoly (public utilities best example, railway tracks),
economies of scale,
• Capital requirements on production or big sunk costs on entry
• Patents (17 years), trade secrets (Coke)
• Exclusive or unique assets (minerals, talent)
• Locational advantage (popcorn shop in cinema – but in general you pay
rent for these advantages)
• Regulation (TV, taxi, telephone in the past)
• Collusion by competitors

30
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

Monopsony

• Buyer Power
Oligopsony exists when there are only a handful of
buyers.
Monopsony exists if there is only one buyer.
Buyer power can be used to obtain less than
competitive market prices.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market Monopoly
ECW2731 Marketstructures
structures
Weeks 7 & 8

• Bilateral Monopoly
Illustration
Unrestrained
monopoly gets
higher than
competitive market
prices.
Unrestrained
monopsony gets
lower than
competitive market
prices.
Monopoly/monopson
y confrontation
breeds
compromise.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
Market In the “real life”
ECW2731 Marketstructures
structures
Weeks 7 & 8

A “real” firm in a market place

(compare to the “ideal” one):
• A typical firm, if it is not a small one, is not owner-managed
• Separation of ownership, long-term strategic and short-run current
control (shareholders, board of directors, brunch managers) implies the
segregation of objectives;
• Natural, economic and legal barriers
• Diversification (non-homogenous product, more than one kind of
activity)
• Technical progress
• Different criteria for different time horizons (short-run operation vs long-
run planning.
• Price-making
• Price/marketing strategies
• Imperfect information
• Investment lag
 ECW2731
Weeks 7 & 8

Sources of monopoly power
• Natural monopoly (public utilities best example, railway tracks),
economies of scale,
• Capital requirements on production or big sunk costs on entry
• Patents (17 years), trade secrets (Coke)
• Exclusive or unique assets (minerals, talent)
• Locational advantage (popcorn shop in cinema – but in general you pay
rent for these advantages)
• Regulation (TV, taxi, telephone in the past)
• Collusion by competitors

34
 ECW2731
Weeks 7 & 8 What can a monopolist do?
Erect strategic entry barriers

• Excessive patenting and copyright

• Limit pricing (set price below monopoly price)

• Extensive advertising to create brand name to raise 
cost of entry

• Create intentionally excess capacity as a warning for 
a price war

35
 Franchising „McFood“
ECW2731
Weeks 7 & 8

• A Franchiser (mother company) gets a fixed 
percentage of sales,
• The franchisee is the residual claimant

• What are the incentives for the two partners?
• Other problems like number of shops in a region…
• Other examples??

36
 ECW2731
Weeks 7 & 8

37
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligopoly and Monopolistic Competition
Weeks 7 & 8

Contrast Between Monopolistic Competition

and Oligopoly

• Monopolistic Competition
• Large number of sellers that offer differentiated products.
• Normal profit opportunity in long-run equilibrium.
• Oligopoly
• Few sellers.
• Economic profits are possible in long-run equilibrium.
• Dynamic Nature of Competition
• Timely market structure information is required for
managerial investment decisions
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Мonopolistic competition
Weeks 7 & 8

• The market consists of n mono-product firms;

• The products are viewed by the buyers as close though not perfect
substitutes for one another;
• Therefore, each of the sellers is a monopolist of its particular product
variant with a limited degree of monopoly power.
• Such a monopolist is enjoying a monopoly power and making
economic profit during only a short period of time
• from the introduction of an unique product or technology
• until such a technology becomes available to rivals, or
• until a new “more innovative” product is introduced by a rival.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Мonopolistic competition
Weeks 7 & 8

Price
Costs MC
AC

Pmc

MR Demand
Q
Qmc Quantity

Short-run Monopoly Equilibrium

Monopolistically competitive firms take
full advantage of short-run monopoly.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Мonopolistic competition
Weeks 7 & 8

Price
MC Price
Costs AC
Costs MC AC

Pmc

D2 D1
D
MR
MR1 Quantity
MR2 Qmc Quantity

Long-run equilibrium same costs,

lower demand and excess capacity –
Entry of new firms low output high price decision With
offering differentiated products, P=AC at a
product substitutes point above minimum LRAC.
shifts the demand P > MR = MC.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Мonopolistic competition
Weeks 7 & 8

Price Price
Costs MC AC MC
Costs AC

Pmc
Pac

D2 D1 D
MR

MR1 Quantity Qmc Qac Quantity

MR2
Long-run equilibrium same Long-run equilibrium– high output low
costs, lower demand and price decision (corresponds to perfect
excess capacity – low output Competition)
high price decision With homogenous products, P=AC at
minimum LRAC.
With differentiated
This is a competitive market
products, P=AC at a point equilibrium with homogeneous
above minimum LRAC. production.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8

• Oligopoly Market Characteristics

• Few sellers.
• Homogenous or unique products.
• Blockaded entry and exit.
• Imperfect dissemination of information.
• Opportunity for above-normal (economic) profits in long-run equilibrium.
• Examples of Oligopoly
• National markets for aluminum, cigarettes, electrical equipment, filmed
entertainment, ready-to-eat cereals, etc.
• Local retail markets for gasoline, food, specialized services, etc.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8

Cartels and Collusion

• Overt and Covert Agreements

• Cartels operate under formal agreements.
• Powerful cartels function as a monopoly.
• Collusion exists when firms reach secret, covert agreements.
• Enforcement Problem
• Cartels are typically rather short-lived because coordination
problems often lead to cheating.
• Cartel subversion can be extremely profitable.
• Detecting the source of secret price concessions can be
extremely difficult.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8

Cartels and Collusion

 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8

Oligopoly Output-Setting Models

• Cournot Oligopoly
• Cournot equilibrium
output is found by
simultaneously solving
output-reaction curves
for both competitors.
• Cournot equilibrium
output exceeds
monopoly output but is
less than competitive
output.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8
Stackelberg Oligopoly

• Stackelberg model posits a first-mover advantage.

• Price wars severely undermine profitability for both leading and
following firms.
• Price signaling can reduce uncertainty in oligopoly markets.
• Price leadership occurs when firms follow the industry leader’s
pricing policy.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8
Stackelberg Oligopoly
• Price leader sets the
price at P2
• Profit is maximised at
Q1.
• The follower(s) will
supply the combined
output of Q4-Q1
• At P3- Follows will
supply everything
At P1 – the leader will
supply everything at
no economic profit
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8

Oligopoly Price-Setting Models

• Bertrand Oligopoly:
Identical Products
– The Bertrand
model focuses
upon the price
reactions.
– The Bertrand
model predicts a
competitive market
price/output
solution in
oligopoly markets
with identical
products.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Oligipoly
Weeks 7 & 8

Oligopoly Price-Setting Models

• Bertrand Oligopoly:
Identical Products
– The Bertrand
model focuses
upon the price
reactions.
– The Bertrand
model predicts a
competitive market
price/output
solution in
oligopoly markets
with identical
products.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Game Theory Basics
Weeks 7 & 8

• Types of Games
– Zero-sum game: offsetting gains/losses.
– Positive sum game: potential for mutual gain.
– Negative-sum game: potential for mutual loss.
– Cooperative games: joint action is favored.

• Role of Interdependence
– Sequential games: moves in succession.
– Simultaneous-move game: coincident moves.

• Strategic Considerations
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Game Theory Basics
Weeks 7 & 8

Prisoner’s Dilemma
• Classic Riddle
– Rational behavior can give suboptimal result.
– Rationality can hamper beneficial cooperation.

• Business Application
– Dominant strategy gives best result regardless of moves by
other players.
– Secure strategy gives best result assuming the worst
possible scenario.

• Broad Implications
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Game Theory Basics
Weeks 7 & 8

Nash Equilibrium

• Nash Equilibrium Concept

– Neither player can improve their payoff through a unilateral
change in strategy.
– Nash equilibrium concept is broader than the concept of a
dominant strategy equilibrium.
– Every dominant strategy equilibrium is also a Nash
equilibrium.
– Nash equilibrium can exist where there is no dominant
strategy equilibrium.

• Nash Bargaining
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Game Theory Basics
Weeks 7 & 8

Infinitely Repeated Games

• Role of Reputation
– Infinitely repeated games occur over and over again without
boundary or limit.
– Firms receive sequential payoffs that shape current and
future strategies.
– Reputations for high quality give consumers confidence for
repeat transactions.

• Product Quality Games

– In a one-shot game, poor quality can fool customers.
– In an infinitely repeated game, poor quality is shunned by
customers.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Market
Marketstructures
structures Game Theory Basics
Weeks 7 & 8

Finitely Repeated Games

• Uncertain Final Period

– Finitely repeated games have limited duration.
– With end point uncertainty, a finitely repeated game mirrors
an infinitely repeated game.

• End-of-game Problem
– Enforcing end-of-game performance is difficult.
– Solution: simply extend the game!

• First-mover Advantages
– Benefits earned by the player able to make the initial move
in a sequential move or multistage game.
 Competition,
Competition,market
marketstructures
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andbusiness
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decisions
ECW2731 Competitive
Competitivestrategies
strategiesininImperfectly
Imperfectlycompetitive
competitivemarkets
markets
Weeks 7 & 8

■ Not all industries offer the same potential

for sustained profitability;
■ Not all firms are equally capable of
exploring the profit potential that is
available.
■ An effective competitive strategy in
imperfectly competitive markets must be
founded on the firms competitive
advantage.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Competitive
Competitivestrategies
strategiesininImperfectly
Imperfectlycompetitive
competitivemarkets
markets
Weeks 7 & 8

■ A competitive advantage is a unique or rare ability to create,

distribute or service valued by customers.
It is a business-world analogue to what economists call
comparative advantage or when one nation or region of
the country is better suited to the production of one
product than to the production of some other product
■ Above-normal rate of return require a competitive advantage
that cannot easily be copied
In production;
In distribution; or
In marketing
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Competitive
Competitivestrategies
strategiesininImperfectly
Imperfectlycompetitive
competitivemarkets
markets
Weeks 7 & 8

■ Reasons for competitive advantage:

■ Access to a unique resource
■ (Exclusive) Access to a mineral deposit
■ (Exclusive) Access to a material
■ Efficient energy source
■ Unique climatic condition
■ Unique technology
■ Unique (specially qualified or very talented) labour
force; or
■ Access to a unique market
■ A university bookshop
■ The rice market in Japan
■ etc
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-price
Non-pricecompetition.
competition.
Weeks 7 & 8
Product
Productdifferentiation
differentiation

Product
Product differentiation
differentiation
refers
refersto
tothe
theincrease
increaseinintime
timeofofthe
thenumber
numberofofproduct
product
categories
categoriessuppled
suppledand
andthethenumber
numberofofitems
itemsinineach
each
category
category

■ Historically, a step from oligopolistic to monopolistic

competition
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-price
Non-pricecompetition.
competition.
Weeks 7 & 8
Product
Productdifferentiation
differentiation

A simple model of the reason for product differentiation

Price • Considers constant quantity
as well as non-changing AC
and MC corresponding to
this quantity

P* • Producing a little bit different

product a firm might hope to
P charge a higher price

Q Quantity
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-price
Non-pricecompetition.
competition.
Weeks 7 & 8
Barriers
Barrierstotoentry
entry

Price Absolute cost advantages:

Ability of established firms to

produce any given level of output
at lower unit costs than potential
P* LAC*
entrants
P LAC

Q* Q Quantity
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-price
Non-pricecompetition.
competition.
Weeks 7 & 8
Barriers
Barrierstotoentry
entry

Economies of scale:

Ability of established firms

Price
* To produce any given level of output
greater than a certain level Q* at
LAC lower unit costs and
* To restrict potential entrants who are
not able to invest in that level of
production
P
D

Q* Quantity
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-price
Non-pricecompetition.
competition.
Weeks 7 & 8
Barriers
Barrierstotoentry
entry

Product differentiation
advantages:

Price Variety of demand curves

and common LAC.
LAC
Some firms have advantage of
P* technology or specialisation and
are facing demand curves to the
right of the critical one.
D1
D2
D2

Q* Quantity
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-profit-maximising
Non-profit-maximisingcompetition.
competition.
Weeks 7 & 8

Appear
Appearas
as the
the result
result of
of
••Ability
Abilityto
toaffect
affect prices
pricesand
and
••Separation
Separationof
of ownership
ownershipand
andmanagerial
managerialcontrol
control

*Managers’ aim at stability and increase in salaries

*Stability may be achieved through the increase in the scale of
operations
*Increase in sales (not in profit) affects manager’s remuneration
* Banks and retailers would prefer to deal with firms increasing
the volume of sales
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-profit-maximising
Non-profit-maximising competition.
competition.
Weeks 7 & 8

P, Cost MC

AC

D
MR

Profit
maximising
decision
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-profit-maximising
Non-profit-maximising competition.
competition.
Weeks 7 & 8

P, Cost
• Increasing sales, the firm is
moving to the right and
downward the demand curve
and, therefore, decreases
price,
• The limitation is AC curve.
Some profit should be earned
anyway
D
MR

Profit Sales
maximising maximising
decision decision
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-profit-maximising
Non-profit-maximising competition.
competition.
Weeks 7 & 8

P, Cost MC

AC

D
MR

Profit
maximising
decision
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Non-profit-maximising
Non-profit-maximising competition.
competition.
Weeks 7 & 8

P, Cost MC
Old sales maximising decision is a profit
maximising decision at a new level
of average cost
AC

D
MR

Old profit New profit

maximising maximising
decision decision
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Measurement
Measurementofofmarket
marketstructures
structures
Weeks 7 & 8
Seller
Sellerconcentration
concentration

Seller
Seller concentration
concentration
refers
referstotothe
thedegree
degreeto
towhich
whichproduction
productionfor
foraaparticular
particular
market
marketor
oror
orininaaparticular
particularindustry
industry
isisconcentrated
concentrated ininthe
thehand
handofoffew
fewlarge
largefirms
firms

Measurement of concentration

• number of firms in the market

• size distribution of firms in the market
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Measurement
Measurementofofmarket
marketstructures
structures
Weeks 7 & 8
Seller
Sellerconcentration
concentration

The Australian
Bureau of 8140.0.55.001 Industry
Statistics Concentration Statistics
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Measurement
Measurementofofmarket
marketstructures
structures
Weeks 7 & 8
Seller
Sellerconcentration
concentration

C2542 - Paint Manufacturing in Australia

KEY COMPETITORS (www.ibisworld.com.au/static/iwabout/SamIndPart.asp)
MAJOR PLAYERS

Table: Market Share
Major Player Market Share Range
Orica Limited 22.00% - 25.00% (2004)
Wattyl Limited 17.00% - 19.00% (2004)
Barloworld Australia Pty Limited 9.00% - 11.00% (2004)
Akzo Nobel Industries Limited 7.00% - 9.00% (2003)
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Measurement
Measurementofofmarket
marketstructures
structures
Weeks 7 & 8
Seller
Sellerconcentration
concentration

Measurement of concentration

T
he firm s
 in the
 in d
u stry  are  s
orte
d
a
ccord in g
 to the
 s iz
e o f th e ir o
utput.
X i   - th
e  outp
u t o
f th e  firm

X    -    th
e o
utp
ut o
f in
dus
try

Xi
X  -  th
e s
hare
 o
f th
e firm
 in
 th
e in
dus
try
o
utp
ut

T
he ra
tio
 o
f r la
ges
t firm
s in
 th
e in
dus
try
o
utput
r
Xi X1 X2 Xr
Cr =∑1 X
i=
=
X
+
X
++
...
X
 ECW2731
Weeks 7 & 8 Census Measures of Market Concentration

• Concentration Ratios
– Group market share data are called concentration ratios.
– CRi = ∑ Xi, where Xi is market share of the ith leading firm.
– CRi = 100 for monopoly.
– CRi ≈ 0 for a perfectly competitive industry.
• Herfindahl-Hirschmann Index
– Calculated in percentage terms, the HHI is the sum of squared
market shares for all competitors.
– HHI = ∑ Xi2, where Xi2 is squared market share of the ith firm.
– HHI = 10,000 for monopoly.
– HHI ≈ 0 for a perfectly competitive industry.
• Limitations of Census Information
– Slow reports hinder usefulness.
– National statistics obscure local markets.
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Measurement
Measurementofofmarket
marketstructures
structures
Weeks 7 & 8
Seller
Sellerconcentration
concentration

Measurement of concentration

Diagrammatic
approach
100%
The curve of real (not
equal distribution
Cumulative % of output

The curve of equal

distribution of shares
of the market among
firms
This distance measures
concentration
N
No of firms cumulated from the largest
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8

Diversification
Diversification

Vertical
Verticalcoordination
coordination

Multinational
Multinationalcompany
company
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Diversification
Diversification

Invest in production
Buys shares of
facilities to produce
A firm X a firm Y producing
a product D
producing a good B
a good A

Invents a new
product C
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Vertical
Verticalcoordination
coordination

A firm X
producing
a good A
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Vertical
Verticalcoordination
coordination

A firm X
producing
a good A

Invest in production
facilities or buys shares
of or coordinate activities
with a firm producing an
input D
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Vertical
Verticalcoordination
coordination

A firm X
producing
a good A

Invest in production Invest in facilities or

facilities or buys shares buys shares of or
of or coordinate activities coordinate activities
with a firm producing an with a firm providing
input D professional training
for employees
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Vertical
Verticalcoordination
coordination

Invest in production
facilities or buys shares
of or coordinate
activities with a firm using
A as an input

A firm X
producing
a good A

Invest in production Invest in facilities or

facilities or buys shares buys shares of or
of or coordinate activities coordinate activities
with a firm producing an with a firm providing
input D professional training
for employees
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Vertical
Verticalcoordination
coordination

Invest in production
facilities or buys shares
of or coordinate Invest in or buys shares
activities with a firm using of or coordinate activities
A as an input with a firm specialising in
the selling of product A
A firm X
producing
a good A

Invest in production Invest in facilities or

facilities or buys shares buys shares of or
of or coordinate activities coordinate activities
with a firm producing an with a firm providing
input D professional training
for employees
 Competition,
Competition,market
marketstructures
structuresand
andbusiness
businessdecisions
decisions
ECW2731 Multinational
Multinationalcompanies.
companies.Vertical
Verticaland
andhorizontal
horizontalcoordination.
coordination.
Weeks 7 & 8
Multinational
Multinationalcompany
company

Undertake
vertical Establishes
coordination branches in other
measures abroad countries
A firm producing
a good A in a
home country
Buys share of
Conduct
analogous firms
diversification
in other countries
practices abroad