INDUSTRIAL ECONOMICS

(ECONOMICS OF INDUSTRY)
(INDUSTRIAL ORGANIZATION)

INTRODUCTION TO THE COURSE

MADDA WALABU UNIVERSITY
Mesfin Abraham (2013)
MA IN DEVELOPMENT POLICY
(Specializing in Trade and Industrial Policy)
 COURSE INTRODUCTION
COURSE NAME:
 Industrial Economics
 Industrial Organization
 The Economics of Industry
 Course description:
 Industrial Organization or Industrial Economics is the study of the
operation and performance of imperfectly competitive markets and
the behavior of firms in these markets.
 It is the field of economics concerned with markets and firms where
the applicability and explanatory power of the theory of perfect
competition is questionable because for some reason there is
insufficient competition.

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 COURSE INTRODUCTION
Course Objective:
 The broad objective of this course is to acquaint the
student with the theoretical approaches and empirical
analysis of the role, structure and growth of the firms and
industry on the one hand, and policy issues governing
industrial economics in developed and developing
countries on the other hand.

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 COURSE INTRODUCTION
Course Contents:
Chapter 1: Introduction
 What is Industrial Economics?
 Why we study industrial Economics?
 Approaches in IO
Chapter 2: The Theory of the Firm
 Why do firms exist?
 When and why do firms grow?
 The life cycle of the firm
 Modern theories of the Firm
Managerial Theory of the Firm

Principal-Agent theory

Transaction cost Theory

 Growth of the firm

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 COURSE INTRODUCTION
Chapter 3: Market Concentration
 What is concentration?
 Why do we care about it?
 Theories of Concentration
 Measures of Concentration
 Concentration Ratio
 HHI, Learner Index, Dispersion Method
 Determinants of Concentration
Chapter 4: Industrial Location Analysis
 Does location matter?
 Where does firms locate and why?
 Determinants of industrial location
 Approaches to industrial location

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 COURSE INTRODUCTION
Chapter 5: Analysis of Firm Structure
 Organization, Structure, Ownership and control of Firm
 Does structure and ownership matter? Why?
 Goal and Objective of Firm
 What are the different goals of firms?
 Legal Forms of Business
 Structure – conduct – performance
 What are structure, conduct and performance?
 Does industrial structure affect conduct and performance?
 Measurement of Market Performance and Market Structure
 How do we measure market performance and structure?

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 COURSE INTRODUCTION
Chapter 6: Diversification, Integration and Merger
 What are the different forms in which firms grow?
 What are diversification, integration and merger?
 Vertical Integration and Vertical Restrictions
 Vertical Relationship as a solution to Economic Problems
 The reasons for and against vertical Integration
 Merger and Takeover(Motives for Merger)
 The effects of Merger on Competition and Welfare
Chapter 7: Advertisement
 Why advertise?
 Information and Advertisement
The role of information and advertisement

 The Social benefit and cost of Advertising
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 COURSE INTRODUCTION
Chapter 8: Technological Progress
 The nature and role of technological progress
 Stages of Technological change
 Invention, Innovation and Diffusion
Chapter 9:Industrial Policy
 What is industrial policy
 What are the pros and cons of industrial policy?
 Government Intervention
 Review of Focuses of the Ethiopian Industrial Policy

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 COURSE INTRODUCTION
 Lecture Method and Assessment
 Lecture Method
 In-class problem solving
 Group Work
 Assignment
Assessment method Weight
Assignment 20
(Individual/group)
Quizzes 15
Tests 20
Presentation 5
Attendance 5
Final Exam 40
Total 100

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 Chapter 1 – Introduction to IO
What is Industrial Economics?
 Industrial Organization or Industrial Economics is the
study of the operation and performance of imperfectly
competitive markets and the behavior of firms in these
markets.
 It is the field of economics concerned with markets and
firms where the applicability and explanatory power of the
theory of perfect competition is questionable because for
some reason there is insufficient competition.

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 Chapter 1 – Introduction to IO
What do we study in Industrial Economics?
 The unit of analysis in IO are Firms and Industries
 Given scarcity, the producer has to take decisions about production and
distribution.
 There are several basic issues on which the producer will be taking
decisions such as:
 What, Where and how much commodities he should produce,
 What type of technology he should adopt,
 What should be the size of his factory, what price he should charge,
 How much wages should pay, how much he should spend on
advertisement,
 Should he borrow from banks or elsewhere, etc.
 All such decisions explain the producer's behavior in different market
situations, which we endeavor to study in industrial economics.
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 Chapter 1 – Introduction to IO
Three basic questions in IO related to Industries
 Why are markets organized or structured as they are?
 How does the manner in which markets are organized
affect the way in which firms behave and markets
perform?
 How does the behavior of firms influence the structure or
organization of markets and the performance of markets?

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 Chapter 1 – Introduction to IO
Microeconomics Vs Industrial Economics
 In microeconomics also we study producer’s behavior in relation
to scarcity of resources.
 Because of this fact, some economists would regard industrial
economics as being primarily an elaboration of, and development
from, the traditional theory of the firm taught under
microeconomics.
 Industrial economics is best defined as the application of micro
economic theory to the analysis of firms, markets and industries.
 The distinction between Microeconomics and IO arises
from the overriding emphasis, in industrial economics,
on empirical work and on implications for policy.

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 Chapter 1 – Introduction to IO
Microeconomics
 Is a formal, deductive and
abstract discipline.
 It is passive in approach.
 By and large it assumes profit
maximization as the goal of the
firm & tells us to maximize it
subject to given constraints.
 Being abstract it does not go into
operational details of production,
distribution and other aspects of
the firms and industries.
 Microeconomics may shun Public
policy implications if necessary.
Industrial Economics
 Industrial economics on the
other hand is less formal, more
inductive in nature.
 It is an active discipline
 It searches the goals of the firm
from the revealed facts and
concentrates on the constraints
which impede the achievement
of the goals and tries to
remove them.
 Industrial economics does go
into the depth of such details.
 Public Policy implications are
discussed in IO
 Chapter 1 – Introduction to IO
 Industrial economics addresses decision making under conditions
of scarcity from society’s (macro) dimensions as well.
 For a society as a whole the resources for production are scarce just
as in the case of a producer.
 With scarce resources, the problem is to produce varieties of
goods and services in-the current period and in the future also.
 What goods should be produced: consumer or capital?
 If capital good are preferred, then the series of problems faced by the
society may be:
 What types of capital goods;
 What type of factory (large vs. small scale);
 Where to produce (locational problem);
 How to distribute them; etc
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 Chapter 1 – Introduction to IO
 The decisions in the context of society as a whole may be at variance
with the decisions by an individual producer.
 If this is so, a state will clearly specify the policy framework in which the
individual producers will function
 In other words, to achieve the broader policy objectives, a state will
regulate industries through varieties of ways such a nationalization,
privatization, anti-trust policies, control on prices and outputs, credit
controls, taxes, etc.
 A study of all such instruments of industrial regulation is an integral
part of industrial economics.
 How they affect the performance of the firms is a crucial aspect to
be examined under industrial economics.
 Such information is useful for the regulatory agency of the
government to assess the success of its industrial policy.

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 Chapter 1 – Introduction to IO
In general:
 Industrial economics is predominantly an
empirical discipline having micro and macro
aspects.
 It has a strong theoretical base IN
microeconomics.
 It provides useful applications for industrial
management and public policies.

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 Chapter 1 – Some Basic Concepts in the Study
of Industrial Economics
The Firm:
 A firm is an organization owned by one or jointly by a few or many
individuals which is engaged in productive activity of any kind for the
sake of profit or some other well defined aim.
 Most of the firms owned by private individuals in manufacturing
trade and services will aspire for profits but there may be some other
such as government companies where profit motivation will be
secondary or missing altogether.
The industry:
 A group of firms producing a single homogeneous product and selling
it in a common market (Convention definition)
 A group of sellers of close substitute outputs who supply to a common
group of buyers (unconventional but better)
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 Chapter 1 – Some Basic Concepts in the Study of
Industrial Economics
Market:
 This is defined as a closely interrelated group of sellers and buyers
for a commodity.
 The term is not equivalent to the industry since in the latter case
we will be looking only at the seller’s side of the market.
Market power:
 It refers to the influence that any particular buyer or seller can
exercise over the price of a product.
 It indicates the degree to which a business firm is able to earn
larger than normal profits.

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 Chapter 1 – Some Basic Concepts in the Study
of Industrial Economics
COMPETITON:
 When competition is defined as a process
 The degree to which firms in an industry compete or rival
for getting more market share, sales or customers.
 When competition is defined as a market structure
 It refers to the market structure knows as perfect competition
with all its assumptions or preconditions conditions
 Two broadly categories of market structure:
1. Perfect Competition
2. Imperfect Competition
 Imperfect competition is said to exist in an industry when one or
more assumptions of perfect competition are absent.
 Or simple when firms have some degree of market power

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