JWI515 JWI Week 10 Monopolies Monopsonies and Oligopolies Discussion Please see the attachments for Week 9 & 10 discussion. Also attached are the notes for

JWI515 JWI Week 10 Monopolies Monopsonies and Oligopolies Discussion Please see the attachments for Week 9 & 10 discussion. Also attached are the notes for week 9 & 10.Please include references.Please use Company: CoreLogicProduct from CoreLogic: Property Tax Estimator I really need to finish the last two weeks out strong! Week 9
Market Forces Impacting Your Company
Porter’s Five Forces are Rivalry Among Existing Competitors, Threat of Substitutes, Threat of New
Entrants, Bargaining Power of Buyers, and Bargaining Power of Suppliers. Using your final paper’s
chosen company:
Describe one (1) strong force and one (1) weak force
For both forces, give one (1) example of how you can apply your understanding of its strength/weakness
to help you make better decisions for your company
NOTE: You can base the examples on prior decisions and discuss how you are now better prepared
when similar opportunities/situations arise again in the future.
Week 10
Managing Risk
Using the materials from this week, address ONE of the two options below:
1. Congratulations! You achieved the loan you were seeking in the final assignment! Now, think about
the different types of risk you will face, as you take your product or service to that next level.
Share one (1) internal and one (1) external risk that you will encounter
As a manager responsible for the project’s success, explain what can you do to minimize their impacts
OR
2. Imagine that things are going well with your expansion efforts, but you wake up one day to find your
industry has suddenly become one of the three Imperfect Competition market structures: monopoly,
monopsony, or oligopoly.
What is the one Imperfect structure most likely to occur, given the nature of your industry and its
products/services?
Who would be the dominant players?
In what ways could this be beneficial for the consumer? In what ways could it be harmful?
JWI 515
Managerial Economics
Week Ten | Lecture One
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WHEN MONOPOLIES, MONOPSONIES, AND OLIGOPOLIES RULE AN INDUSTRY
If you’ve ever done a high school physics problem, you know that these problems take place in an
imaginary world where there is no air and no friction. Real-world complications like that make it harder to
study the fundamentals, so they get left out. But your business decisions don’t take place in the airless,
frictionless world of high school physics. They take place in the real world, which means you’re unlikely to
be making those decisions in a perfectly competitive market.
Studying imperfectly competitive markets helps you make decisions that maximize profits in more
complicated, more realistic situations. They are therefore just as important as perfectly competitive models
when we study economics to become better business leaders.
The market structures of monopoly (when one business entity controls the market) and monopsony (a
market in which there is only one buyer in control) are the polar opposite of perfect competition. Even though
unregulated monopolies and monopsonies are rare, the concepts we’ll discuss in this lesson should help
you understand new markets or emerging technologies. These often operate under monopoly-like conditions
because of the strictures of patents or licenses.
WHEN A COMPANY IS THE ENTIRE INDUSTRY
A monopoly exists when a single seller dominates an individual market. Classic examples of monopolies are
public utilities, although these industries often face price and profit regulation as well.
A pure monopolist is the sole provider of a product or service that has no close substitutes. Before its
breakup in 1984, AT&T was the only provider of phone services in the United States. Before wireless
phones and voice-over IP services, there were no close substitutes for the services AT&T provided.
The monopolist is often called a price maker because its individual production decisions effectively set
market prices. Cost information is not readily available or shared, which often creates a competitive
advantage for the firm. Market entry and exit is blocked, typically as a result of economies of scale, legal
barriers like patents and licenses, and the availability of only imperfect information. In the long run, an
unregulated monopoly has the potential to earn a large, disproportionate economic profit.
Monopoly regulation results in greater output and lower profits than would exist without regulation. Price
and profit controls are a common method of regulation. Price ceilings are imposed so that companies
receive a fair return. Regulatory commissions determine the price a monopolist is allowed to charge, based
on a fair return on investment and given the inherent risk involved. Prices are adjusted to maintain a
targeted rate of return. Regulators allow the company to achieve a business profit, not an economic profit.
(Business profits take into account only explicit costs, while economic profits include implicit costs. Implicit
costs involve the resources used by the producer. Any producer would prefer to make a profit not just on its
explicit costs of production, but also on all the other aspects of its overhead.)
A monopolist maximizes profits at the point where marginal revenue (the additional revenue generated by
selling one additional unit) equals marginal cost (the cost added by producing one additional unit), which
we express as the formula MR = MC. Because monopolists are price makers, their price is equal to the
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industry’s average revenue. In the long run, barriers to entry make above-normal profits possible, which
means the price (P) is greater than average cost (AC). This formula is expressed as P > AC.
So how does the monopolist determine its price and output combination to maximize profits? It does so in
the elastic region of its demand curve and not the inelastic region (in other words, in that portion of the
demand curve for its profit where consumers are still responsive to changes in price). This is because as it
moves toward the inelastic section of a downward sloping demand curve (where consumers are less
responsive to changes in price), the monopolist must lower price and increase output, thus earning less
revenue. More output means higher costs. Higher costs and less revenue mean lower profit. Thus, a
monopolist will always charge higher prices than firms under pure competition — and will also make more
profit.
THE SOCIAL COSTS AND BENEFITS OF A MONOPOLY
When compared to perfectly competitive markets, monopolies cause a loss in social welfare, otherwise
known as a deadweight loss. Because a monopolist wants to restrict output in an attempt to increase prices
and earn an economic profit, he or she thereby puts his or her interests ahead of society’s needs.
Monopolists also do not always use cost-effective production inputs or techniques, an inefficiency which is
harmful to society overall. Additionally, legal barriers to entry, such as patents and licenses, prevent
desired competitive forces that would otherwise lead to efficiency and gains for the economy.
Finally, there is the wealth-transfer problem. Monopolies transfer consumer surplus to producer surplus,
causing another economic loss to the consumer. Every time consumers pay more than the competitive
price for goods or services, wealth passes from consumers to producers or suppliers.
Monopolies are not always socially harmful, however. A leading firm with superior efficiency, innovative
technology, or significant economies of scale can be beneficial to consumers and society in general. A
monopolist that enjoys economies of scale can produce total market supply at a lower total cost than
several smaller firms could, for example.
Natural monopolies can benefit society. These forms of monopoly reflect the successful growth of an
organization as a result of superior technology or economies of scale. Regulated utilities are often
considered natural monopolies. In exchange for the rights to exclusive franchises or operating licenses,
companies accept government-imposed price regulations. Because of the strong economies of scale of
building and maintaining the necessary and costly infrastructures involved, one company can offer lower
prices than if several companies competed for the business with their own identical infrastructures.
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PATENTS AND LICENSES
Monopolies can also form as a result of a patent. A patent is an exclusive right to produce, use, or sell an
innovation for a limited period of time. Depending on the type of patent (utility, plant, or design), the user is
granted an exclusive right for a time period ranging from 14 to 20 years. Patents are designed to protect a
developing business from substitutes. Pharmaceutical and technology companies, for instance, rely on
patents to recover the cost of research and development.
A license is another form of monopoly. TV and radio stations, for instance, are granted exclusive broadcast
rights and geographies. Even the taxi driver at the airport has an exclusive right to pick up and drop off
passengers in a designated area.
The inverse of the monopoly structure is monopsony. Monopsonists are sole buyers of an input. The buyer
usually pays a lower price than would exist in a competitive environment. In other words, if a factory is the
only major employer in town, it can pay a lower wage to its workers than if two factories operated. There is
no competition for labor, so the monopsonist can make the price.
ANTITRUST POLICY AND THE BUSINESS LEADER
Antitrust laws are designed to prevent monopolies and promote competition. The Sherman Antitrust Act
and the Clayton Act are the cornerstones of antitrust policy in the United States. The Sherman Act of 1890
forbids trade conspiracies and monopoly behavior. However, it did not break up existing monopolies, nor did
it really define monopoly behavior.
In 1914, the Clayton Act was passed to address such issues as mergers, interlocking directorates, tying
contracts, and price discrimination. Also in 1914, the Federal Trade Commission Act was passed, which
allowed for greater enforcement of the Sherman and Clayton acts and outlawed unfair trade practices.
The Justice Department and the Federal Trade Commission have some overlapping enforcement
responsibilities. It should be noted, however, that the FTC has no authority to bring criminal charges
against a company found to be in violation of the Clayton Act. It can only hold hearings and issue ceaseand-desist orders when necessary. The Justice Department has the authority to bring criminal or civil suits
against violators of the Sherman and Clayton antitrustacts.
COMPETITIVE STRATEGY FOR A MONOPOLIST
Of great significance to a monopoly’s short run profits is the fact that it is a price maker. Monopolies develop
for a variety of reasons, like economies of scale, patents, licenses, superior technology, or product
innovation.
The monopolist, however, still must develop a competitive long run strategy just like the manager of a
perfectly competitive firm.
The exploitation of a niche market is a common strategy companies use to earn above-normal profits, for
example. Businesses can excel in a segment of the market to take advantage of company-specific
strengths. For example, Microsoft and Google have taken advantage of this strategy in the past to dominate
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a specific niche of the high-tech market in personal computer software and search engines, respectively.
The key is to offer a distinctive product that is difficult for competitors to copy or supplant.
WHEN MONOPOLISTIC COMPETITION AND OLIGOPOLIES EXIST
Monopolistic competition and oligopoly fall between the extremes of perfect competition and a pure
monopoly. These structures emerge when a few competitors come together to control a market. Cartels
such as the Organization of Petroleum Exporting Countries (OPEC) and DeBeers (which seek to control
the market for oil and diamonds, respectively) operate quite openly. Industries that at first appear
competitive may exhibit characteristics of each market structure through informal and legal forms of
collusion. Consider the ways the airline industry’s individual companies independently and quickly match
their competitors’ sales prices.
While business leaders may find it challenging to navigate these industry dynamics, operating legally and
ethically under these structures requires that we understand them as we strive to maximize profits within the
legal and economic constraints of these markets.
COMPETITION WITH A MONOPOLISTIC FLAVOR
Just as they do under perfect competition, companies that operate under monopolistic competition face
many competitors. But they still manage to create stronger brand loyalty with consumers than
interchangeable, perfectly competitive companies can achieve.
Under monopolistic competition, each firm produces a small percentage of the total market share or output.
These small percentages limit a monopoly’s ability to control prices. Because market share is so small,
each firm can consider its own pricing policy without considering the possible reactions of competitors.
Easily substitutable products exist, so product differentiation is vital. The market features easy entry and exit.
While costs are most likely greater than those of a perfectly competitive firm, they are not nearly as high as
those a true monopolist faces.
All firms within an industry face competitors, and all will produce a product that has similar substitutes. So
how can one company set itself apart?
Product differentiation is a key ingredient of monopolistic competition. It can take the form of a quality
difference, quantity discounts, superior customer service, favorable credit terms, name brand recognition,
and creative packaging. Advertising helps promote product differentiation. The ability to distinguish a
product from a close substitute is one way a company can achieve some control over its pricing strategy.
Using a hook-and-loop strap instead of shoelaces can create an advantage for a firm that sells sneakers to
the mothers of toddlers, for example. Shoes with hook-and-loop closures may be able to command a
higher price because their convenience makes them perceptibly superior.
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OLIGOPOLY CONTROL
An oligopoly market structure features a few companies that control pricing and production strategies. A
helpful measure of the presence of oligopoly market concentration is the concentration ratio. It measures the
percentage of market share held by an industry’s top firms (usually 4, 8, 20, or 50) divided by the
industry’s total sales. A low ratio tends to indicate greater competition and many firms, as in perfect
competition. A high ratio tends to indicate less competition and fewer firms, indicative of oligopolies or
monopolies.
Consider the beverage competitors Coca-Cola and Pepsi. If you were to research their U.S. market shares,
you would discover that Coke commands approximately 43% of all soda sales, while Pepsi achieves about
27%. The remaining 30% is divided up between five other players, including Dr. Pepper Snapple Group
(17%), Cott (4.2%), National Beverage (2.9%), and various other smaller producers (5.9%). Coke’s
dominance and Pepsi’s 10% lead over the next largest rival are what create the oligopolistic grip these two
have on the soda industry.
In oligopolies, significant barriers to entry and exit exist. Competitors have a high degree of mutual
interdependence. In the long run, an economic profit is possible for efficient firms. Oligopolies sell either
differentiated or homogeneous products. Homogeneous oligopolists sell commodity products, such as coal
or wheat. Differentiated oligopolists sell easily distinguishable products, such as breakfast cereals and
various flavors of soda beverages.
Oligopolies can take on a global presence (as Coke and Pepsi have done) or they may congregate in
relatively smaller geographic areas. It is not cost-effective to have many gas stations in a smaller
geographic region, for example. A small town can support only so many dry cleaners, grocery stores,
banks, and movie theaters (often, only one of each). Thus, in smaller areas, fewer firms naturally dominate.
The ways these smaller numbers of sellers interact directly affect consumer pricing.
CARTELS
We’ve already mentioned the OPEC and DeBeers cartels. A cartel is a group of competitors that collude to
operate under a formal agreement. Through this agreement, they fix prices and output. Cartels are
structured so that each member acts as its own monopoly. The profit-maximizing position of a cartel, then,
is a multistep process that takes into account marginal costs and profit-maximizing output levels. Each
member is supposed to produce only their assigned output level.
The potential for cheating among cartel members increases with the number of firms in a cartel. The more
members in the cartel, the greater the incentive for each member to go over an assigned quantity to
maximize its own self-interest (as opposed to the overall interest of the cartel).
Collusions are informal agreements between competitors to fix prices and output. Collusion can assume a
variety of forms. Overt or open collusion can take the form of a cartel, such as in OPEC’s dominance over
the oil industry. Covert collusion, when it exists, is, by definition, secret (usually because it is also illegal)
and can be difficult to prove. Airlines are often said to collude covertly on ticket prices. Various models can
be applied to the price-output decisions an oligopolist uses to maximize profit. Some firms will focus on
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maximizing output, while others will focus on maximizing pricing.
PRICING AND ECONOMIC MODELS
The type of product produced often determines an oligopolist’s price-setting model. There are four basic
models: Bertrand, Cournot, Stackelberg, and Sweezy.
The Bertrand model is used by homogeneous oligopolists to determine profit maximization. The model
states that firms selling homogeneous
prod
ucts and having identical costs will essentially engage in price wars to capture market share. The consumer
will purchase the product from whichever company sells at the lowest price. The firms will undercut each
other on price, and the consumer will buy from whoever has the lowest price at the time until each company
can no longer lower prices. At that point, the two companies will sell the product for the same price, which
is equal to their marginal cost.
The Cournot model, often used in the case when two firms dominate a …
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