Structure-Conduct-Performance

Industrial Economics

Objectives

• Look at what factors make market power a ‘problem’

• What is the evidence on market power?– How do we test?– The deadweight welfare loss triangle

• Harberger

• Posner

• Cowling & Mueller

Oligopoly Models

• Dominant firm models. • Models of potential competition and entry

deterrence. • Models of co-operative oligopoly.• Models of non-co-operative oligopoly such as the

Cournot model • Models of oligopoly with product differentiation. • Models of the interaction between vertically related

firms with market power.

When is market power most likely to become a 'problem' by allowing firms to

earn 'excess' profits and/ or creating a social welfare loss?

• Existence of a dominant firm. • Barriers to entry. • Firms are price takers and quantity makers• Existence of conditions conducive to collusion.

Conditions are conducive to collusion when ...

• Firms are few in number and roughly equally sized

• The product is roughly homogenous.• Demand is slow growing and stable.• Cost conditions are similar amongst firms.• Fixed costs are a small proportion of total cost.• Assets are highly function specific.• Its is easy to act against cheats.

Testing the relationship

Profits = f (conc., entry barriers, product differentiation, exit costs)

Is the relationship linear and continuous, or non-linear and discontinuous?

Should we be estimating a single equation model or a simultaneous equation model?

Results

• In 14 out of 98 investigations in one period by the MMC profits were found to be 'excessive'.

Does this mean anything

• Not according to the Chicago critics of the SCP paradigm.

They argue as follows:

Market power and above normal profits are not in fact causally related but are both products of a common force which is the superior competitive ability of some firms over others.

The Welfare loss triangleaka the Harberger triangle

W = TR PCM2

Harberger concluded in 1954 that the losses arising from market power in the US economy were very small, less than 0.1% of GNP.

Was Harberger Right?

Probably not because

• his 'estimate' for (the elasticity of demand) was -1 which is inconsistent with profit maximisation.

• If we use the Lerner index for market power and substitute it into Harberger's expression we get the result that the loss is equal to half of all above normal profits!

What do others say?

• Scherer

• Posner

• Cowling & Mueller