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Market structure and firm behavior Market structure Perfect competition and firm decision Pure monopoly and firm decision Monopolistic competition and firm decision Oligopoly and firm decision
Market structure
Market structure ： the competitiveness of the products or services 。
Market competitive analysis ： market rates; price competition; barriers to entry and barriers to exit; industrial growth rate; fixed cost and variable cost.
Influence Factors ： Number of consumers and firms Difference of product Scale economies Entry barrier and exit barrier
Market structureMarket structure::
competitive weakerhigher
Pure Competition
Monopolistic Competition
Oligopoly Monopoly
Perfect (pure) market
Many firms and consumers all making same product (homogenization) Each firm’s output small relative to total No entry and exit barrier Complete information
Example:
Pure monopoly
Market with a single seller Firm demand = market demand
No substitutionHigh entry and exit barrier
Example:Example:
Monopolistic Competition
Large number of firms sell a differentiated product Products are close (not perfect) substitutes
Market is monopolistic Product differentiation creates a degree of marke
t power Market is competitive
Large number of firms, easy entry
Example:Example:
Oligopoly market
Number of firms is small Products are same or different High barriers to entry Interdependence of firms
example:example:
Decision in pure market
（ 1 ） Price strategy（ 2 ） Short-run decision
Maximum of profit Shut-down point
（ 3 ） Long-run decision: enter or exit
Pure competition ： Firms are price-takers
Demand for a Competitive Price-Taker
Demand curve is horizontal at price determined by intersection of market demand & supply Perfectly elastic
Marginal revenue equals price Demand curve is also marginal revenue curve
(D = MR) Can sell all they want at the market price
Each additional unit of sales adds to total revenue an amount equal to price
price MC
AC
MR=P=AR
Profit-maximization Q0product
P0
0
Profit-Maximization in the Short Run
Profit = π = TR - TC
Example: A firm in pure market
Product Total cost
AC MC
2345678
22303645607796
111099101112
--869151719
If P=17 ， how many product should be supplied ？What is the Profit of per unit ？ What is the total profit ？
In the short run, the firm incurs costs that are: Unavoidable and must be paid even if output
is zero Variable costs that are avoidable if the firm
chooses to shut down In making the decision to produce or
shut down, the firm considers only the (avoidable) variable costs & ignores fixed costs
Profit-Maximization in the Short Run
Profit Margin (or Average Profit)
Level of output that maximizes total profit occurs at a higher level than the output that maximizes profit margin (& average profit) Managers should ignore profit margin (average
profit) when making optimal decisions
Average profit ( P ATC )Q
Q Q
Profit marginP ATC
Shut down
（ 3 ） if market price =P3
price
P1
P2
MC
AVC
AC
P3
Q1 Q2 Q3 product0
（ 1 ） if market price =P1
（ 2 ） if market price =P2
Q0
PLMC
LAC
AA
EARMRPe
eP
If TR<LTC, P<LAC ， exit ； if TR>LTC ， P>LAC ， then entry
Long-run decision: Entry or exit?
BA
C
2E
1E
3E1P
3P
2P
3P
1P
2P
SACSMC
Q
P
0( )Industry
Q0
P
( )Firm
Long-Run Competitive Equilibrium
All firms are in profit-maximizing equilibrium (P = LMC)
Occurs because of entry/exit of firms in/out of industry Market adjusts so P = LMC = LAC
Long-run equilibrium
Ranidae is introduced from Cuba. It grows fast and is delicious. Some farmers in south of China began to breed Ranidae in 1985, until 1992, there were about 800 farmers and with 500 mu breeding area.
Mr.Li,50 years old, began to breed Ranidae in 1986 and had earned 700,000 yuan until1992. Mr.Zhang,40 years old, earned 280000 in 1992 for selling tadpole.
In 1993, local newspaper published a wrong news: the price of Ranidae in city A is 52 yuan/kg, sales of Ranidae in City A is about 700 kg. export price of Ranidae is 260-280 yuan/kg. At that time, a lot of farmers tried to breed Ranidae. The number of farmer rised to 6471 and breeding area increased to 6021 mu. Ranidae’s price is only 16-20 yuan/kg, less than half of the cost. what should the farmers do?
Ranidae
Discussion:
Cabbage in Shanghai and Watermelon in other provinces.
Perfect(pure) market
The firm supplies its product at the minimum of its long-run cost, so it gets efficiency.
Resources are allocated efficiently between products and firms.
The total of Consumer surplus and supplier surplus are maximized.
Monopolistic competition
Price strategyPrice strategy Short-run decisionShort-run decision Long-run decisionLong-run decision
Product strategy: Product strategy: differentiation differentiation
Competitive strategyCompetitive strategy
0P
ARD
SAC
SMC
MR
Q0
、C RP
E
0Q
A
B0AC
In short-run,When SMC=MR,Profit maximum
Short-run decision
LACLMC
Q0
P
MR D
0Q
0P
0AC
Q0
P
SACSMC
MRD
0Q
0P
Q0
P
SACSMC
MR D
0Q
0P0AC
Long-run equilibrium
Market Power
Ability of a firm to raise price without losing all its sales Any firm that faces downward sloping dema
nd has market power Gives firm ability to raise price above ave
rage cost & earn economic profit (if demand & cost conditions permit)
Measurement of Market Power
Degree of market power inversely related to price elasticity of demand The less elastic the firm’s demand, the greater its
degree of market power The fewer close substitutes for a firm’s product, t
he smaller the elasticity of demand (in absolute value) & the greater the firm’s market power
When demand is perfectly elastic (demand is horizontal), the firm has no market power
Lerner index measures proportionate amount by which price exceeds marginal cost:
Equals zero under perfect competition Increases as market power increases Also equals –1/E, which shows that the index (& market power), vary inversely with elasticity The lower the elasticity of demand (absolute value), the greater the index & the degree of market power
Measurement of Market Power
Lerner index P MC
P
If consumers view two goods as substitutes, cross-price elasticity of demand (EXY) is positive The higher the positive cross-price elasticity,
the greater the substitutability between two goods, & the smaller the degree of market power for the two firms
Measurement of Market Power
Product strategy ： differentiation
Technology innovation ： higher quality, new function, new product (objective difference)
Advertising and promotion: (subjective difference)
Service strategy ： service system after sale
Discuss: advertising Giving information or inducing Benefit to Competition or concentration Promoting efficiency or waste
Optimal advertising intensity The marginal profit or contribution margin
from an additional unit of output: PCM=P-MC The marginal cost of advertising (MCA)
/MCA Ak Q
Optimal level of advertising outlays: PCM=MCA
Competitive strategy
Low cost strategy Dell’s cost leadership in PC assembly
Differentiation strategy
Focus strategy
