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MGEC40H3 (31)
Lecture

Chapter 6 textbook ( 4th edition)

6 Pages
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Department
Economics for Management Studies
Course Code
MGEC40H3
Professor
Jack Parkinson

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C40 Chapter 6
- Economic concept of substitutes:
2 firms directly compete if a price increase by one causes many of its
customers to do business with the other.
- Products tend to be substitutes when 3 conditions hold:
1) they have the same or similar product performance characteristics
describes what it does for consumers
2) they have the same or similar occasions for use
describes when, where and how it is used ie orange juice & cola ( not
alike
3) they are sold in the same geographic market
2 products are in different geographic markets if they 1) are sold in
different locations 2) it is costly to transport the goods and 3) it is costly
for consumers to travel to buy the goods.
- The degree to which products substitute for each other is measured by
the cross price elasticity of demand. The cross price elasticity measures
the % change in demand for good Y that results from a 1 % change in the
price of good X.
- Flow analysis: examining data on consumer travel patterns.
Can be a good starting point to identify geographic competitors.
- Markets are often characterized according to the degree of seller
concentration. Market structures: refers to the number and distribution
of firms in a market.
- Measures of market structure: 1) N- firm concentration ratio: gives the
combined market share of the N largest firms in the market. One problem
is that its invariant to changes in the sizes of the largest firms in the
market.
2)Herfindhal Index HHI : it equals the sum of the squared market
shares of all the firms in the market. Si represent the market share of
firm i . Thus in a market with 2 firms that each have 50% market share,
HHI equals .5 2 + .52 = .5
the HHI in a Market with N equal size firms is 1/N, because of this
property the reciprocal of the HHI is referred to as numbers-equivalent of
firms.
HHI conveys more information than the N-firm concentration ratio.
Nature of
competition Range of HH I Intensity of price
competition
PC Usually below 0.2Fierce
Monopolistic Usually below 0.2May be fierce or light
www.notesolution.com
competition depending on product
differentiation
Oligopoly.2 - .6 May be fierce or light
depending on interfirm
rivalry
Monopoly .6 and aboveUsually light unless
threatened by entry.
- Perfect competition:
1- many sellers of a homogenous good
2- many well informed consumers
3- single market price determined by interaction of all buyers and sellers
ie if one sells one penny more than the market price then the firm will sell
nothing & if it charges 1 penny less it will sacrifice revenues, it will face
indefinitely elastic demand.
4- firms only decision is how much output to produce & sell.
- Market conditions will drive down prices when 2 or more of the
following conditions are met:
1) there are many sellers
2) consumers perceive the product to be homogenous
3) there is excess capacity
- Antitrust laws : designed to prevent collusive pricing
- It is unusual for more than a handful of sellers to raise prices
much above costs for a sustained period: this is true for several
reasons:
1) when there are many sellers, a diversity of pricing preferences is likely.
Even if the industry PCM is high, a particular seller may prefer a low cost
if it has low costs.
2) A price increase will result in fewer purchases by consumers so sellers
will have to reduce production to support the elevated price. It is difficult
to get a lot of sellers to agree on who should cut production.
3) Even if sellers appear willing to cut production, some may be tempted to
cheat by lowering price and increasing production. Those with small
market shares are most likely to cheat
a small firm may view collusive behavior among bigger rivals as an
opportunity to increase market share. Together with increased market
share may come learning benefits and economies of scale that will
enhance the firms long run competitive position.
- Homogenous products: when a firm lowers its price, it expects to
increase its sales. The sales increase may come from 3 different
sources:
www.notesolution.com

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Description
C40 Chapter 6 - Economic concept of substitutes: 2 firms directly compete if a price increase by one causes many of its customers to do business with the other. - Products tend to be substitutes when 3 conditions hold: 1) they have the same or similar product performance characteristics describes what it does for consumers 2) they have the same or similar occasions for use describes when, where and how it is used ie orange juice & cola ( not alike 3) they are sold in the same geographic market 2 products are in different geographic markets if they 1) are sold in different locations 2) it is costly to transport the goods and 3) it is costly for consumers to travel to buy the goods. - The degree to which products substitute for each other is measured by the cross price elasticity of demand. The cross price elasticity measures the % change in demand for good Y that results from a 1 % change in the price of good X. - Flow analysis: examining data on consumer travel patterns. Can be a good starting point to identify geographic competitors. - Markets are often characterized according to the degree of seller concentration. Market structures: refers to the number and distribution of firms in a market. - Measures of market structure: 1) N- firm concentration ratio: gives the combined market share of the N largest firms in the market. One problem is that its invariant to changes in the sizes of the largest firms in the market. 2)Herfindhal Index HHI : it equals the sum of the squared market shares of all the firms in the market. Si represent the market share of firm i . Thus in a market with 2 firms that each have 50% market share, 2 2 HHI equals .5 + .5 = .5 the HHI in a Market with N equal size firms is 1N, because of this property the reciprocal of the HHI is referred to as numbers-equivalent of firms. HHI conveys more information than the N-firm concentration ratio. Nature of Range of HHI Intensity of price competition competition PC Usually below 0.2 Fierce Monopolistic Usually below 0.2 May be fierce or light www.notesolution.com
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