High barriers to entry What causes high barriers to entry? 1. Economies of scare 2. Gov licensing and other legal barriers to entry 3. Patents 4. Control over an essential resource Monopoly: market characterized by high barriers to entry A single seller of a well defined product that has no good substitutes Ex: eppy pen Demand curve for a monopolist is the market demand curve Maximizes profit by producing where mr=mc Obstacles to Collusion 1. Number of Firms: As the number of firms increases, the likelihood of effective collusion declines. 2. When it’s difficult to detect price cuts by other firms. - Cutting price lets one firm increase output, and therefore increase profit, if the other firms don’t cheat as well. 3. Low Entry Barriers: Since oligopolies earn economic profit, low entry barriers allow other firms to enter the market and drive economic profit to zero. 4. Unstable Demand conditions: Oligopolists may have differences of opinion about how to face uncertain demand. 5. Antitrust legislation and enforcement Prisoners dilemma- explains incentives for firms to collude Dominant Strategy: A strategy that is best for a player in a game regardless of the strategies chosen by other players Game theory: the analysis of strategic choices made by competitors in a conflict situation Group work for classes Shoveling a communal driveway Repeated games: more likely to cooperate Tit for tat: cooperate for the first 2 round, then do whatever the other player did in the last round Oligopoly prices Firms collude- look more like monopolies Firms cheat- price will be closer to competitive price Defects of markets with entry barriers Market forces are weakened Only a few suppliers, the option for consumers to choose a different supplier is limited Little incentive for firms to maintain quality or competitive price. Leads to inefficiency in the market. 2. Allocative inefficiency The price of the good often exceeds the cost-per-unit of the good. Sometimes even in the long run Little/no competition means price is not driven down to per-unit costs. Consumers would be better off if more of goods/services were produced. Government grants of monopoly power encourages rent seeking: Instead of spending time and resources on producing services, forms lobby the government for more favors(inefficient) Policy Alternative Things you can do with the law, what the gov can do to restrict the oligopolies 1. Control structure of industry to ensure rival firms with antitrust laws Pro: can increase the number of firms by disallowing firms to form monopolies Con: can protect inefficient firms When substantial economies of scale are present Cheaper for one firm to produce everything 2. Reduce artificial barriers to trade Anything that will put a barrier to entry 3. Regulate price and output of firms Average cost pricing Forces firms to make zero economic profit Marginal cost pricing Sometimes used, seldom practical Forces economic loss and requires subsidies Regulation problems Suffers from lack of info Cost shifting: 4. Supply the market with goods produced by gov firms Suffers from the info problem Price is not allowed to signal supply and demand, so inefficiency arises Public choice economics and incentives