Economics Chapter 11-20 Review

Chapter 11 - Competitive markets: maximize profits by choosing an output of MR = P = MC

Costs and Profit - Many producers and consumers
Maximization - The price falls below AC, firms exit and shut down
Under - In the long run, firms will enter and exit until Profit = 0
Competition Price-taker – the market sets the price, and each producer is a price-taker
Advertising = meaningless
Perfect competitive market = perfect elastic curve (horizontal)
In a competitive market, price is given (choosing quantity to earn profit)
TC = opportunity costs of all resources
Explicit Costs – things that must be paid for
- Rent
- Accounting Profit uses conventional costs
Implicit Costs – things that do not require an outlay of money
TC = Fixed Costs (FC) + Variable Cost (VC)
- Fixed costs do NOT vary with Q
- Variable costs rise as Q increases
Fixed Cost Example:
- Rent, insurance, liquor license
Variable Costs
- Worker hours, food costs (related to quantity)
Marginal Costs (MC)= last unit produced
Average Costs (AC)= all units produced
Profit = (P – AC) *Q
MC > AC  AC is rising
Footnote – in the short run, firm may stay even if it is losing money
In the short run, the industry supply curve is the horizontal sum of the MC
curves of individual firms (above the AC)

Chapter 12 - Invisible Hand Property 1 – if firms maximizing profits and equating P = MC then
Competition overall costs are minimized
and the Invisible - Any change will increase / decreases costs
Hand - Leads to cost-minimization
Invisible Hand Property 2 – resources move in or out of the market until P = 0
- (+) = In
- (-) = Out
Profit is a signal and an incentive
In competitive industry, P > 0 is temporary
IHP2 – firms assure that resources are moving to their most productive use and
the balance of industries is efficient

Chapter 13 - Competition Markets

Monopoly - Free entry and exit of firms
 - Many buyers and sellers
- Each buyer and seller are a price-taker
- In a competitive market, firms maximize profits by choosing outputs
such that MR=P=MC
Monopoly
- Barriers to entry
- One seller, many buyers
Monopolist a downward facing demand curve
- MR < P
Profit = (P – AC) * Q
Relatively Inelastic Demand = Big Markup
- Consumers are insensitive to the price of life-saving drugs ($$$)
Relatively Elastic Demand = Small Markup
Natural Monopolies – large fixed costs, low marginal costs
- A single firm can produce good cheaper than several small firms
- AC > MC
- 1 firm at a cheaper price
Examples:
- Cable
- Subways
Price Regulation – Sets max price for monopolist
- Minimizes DWL
- More quality at lower costs
- Price is below AC
Un-Natural Monopolies – Monopolies forced by Government
- First class mail
Patents – Benefits from increased innovation > costs of economic inefficiency)
- Example = Tesla
- Generally every 17 years (new drugs)
- Research and development
- Creates DWL
- Inefficient – not necessary for innovation
Anti-trust policy
- Aims to prevent creation of monopolies
- Government tries to break up the monopoly

Chapter 14 – Price Discrimination – Charging more than one price for the same product
Price - 3rd Degree: different price in different markets
Discrimination - 1st Degree: perfect price discrimination
- No arbitrage is possible (buying low and selling high)
Monopolists can increase profits by charging different prices
MR = MC
Examples of Price Discrimination:
- HIV price is different by location
- Movie theaters: cheaper for the daytime shows, senior discounts
Arbitrage – makes it difficult for a firm to set different prices in different
markets, REDUCING profit from price discrimination
 - Red HIV pills from Africa, white HIV pills from Europe
Welfare Effects
Perfect Price Discrimination – charge each buyer his or her maximum
willingness to pay
- Different $ to different consumers
- What I will pay: 8$ What they charge you: 8$
- Very difficult to implement, requires information on consumers wtp
Examples of PPD
- Car dealer
- Flight tickets (business vs vacationer)
- Net college tuition (tuition – financial aid)
Single Price Monopoly – consumers pay same $
If consumers can resell goods, price discrimination MAY NOT be possible
If price discrimination increases output, then total surplus will increase
- Reduces DWL
Tying – consumption of one goods requires the consumption of another good
- Cell phone and data plan
- Printer and printer cartilage
Tying ALLOWS for price discriminate
- Prices base good below cost and variable good above cost
Bundling – Variety of goods
- Cable TV (can’t buy individual channels)
- Vacation packages (food and drinks)
Gains from Trade = PS + CS
Price Discrimination can increase gains from trade and welfare when compared
to single monopoly pricing

Chapter 15 – Oligopoly - market with SMALL number of competitors

Oligopoly and Its not a single firm considering its own cost and pricing independently
Game Theory Cartel – move market from competitive one to one controlled by single
monopoly
- Identical Products
- Oil, diamonds
- Cartels work BEST for commodities with limited geographical options for
ENTRY
- The government does not always prosecute cartels and sometimes
support them
Each cartel firm must produce quota – leads to cheating
- Each firm in the cartel as a strong incentive to cheat
Game Theory – models of strategic interaction
The Prisoner’s Dilemma - Individual decision-makers always have an incentive to
choose in a way that creates a less than optimal outcome for the other person
Strategic decision making = what I do depends on what they do
- Cartels
Chapter 16 – Network Good – a good whose value to one customer increase the more that
Competing for other customers use the good
Monopoly: - Telephones
Network Goods - Instagram
- Network externality (positive externality)
Normally monopolies or oligopolies
Competition is “for the market”
Network Goods involve 1 firm at dominant standard high price
Standard option for “best” might not be most optimal
- Blue-ray vs. HD DVD
Nash Equilibrium – Neither player has an incentive to change behavior
Contestable – credibly competitor enters and takes away business from leader
How to limit contestability? – Loyalty Plans
Platform Firms – firms that connect 2 sides of the market
- eBay: Buyers and Sellers
Music is a Network Good

Chapter 17 - Monopolistic Competition – Lots of competitors, Differentiated Products

Monopolistic - Zero economic profits in the LONG RUN
Competition - If Pepsi $ increases, they will still have consumers buying
and Advertising - No strategic interaction
Differentiated Products
- Products are good, not perfect but have good substitutes
Differentiated Products Examples:
- Gas stations (location)
- Restaurant (different tastes)
- Grocery stores (favorite variety)
- Retailers (name brand)
Advertising – key feature of Monopolistic Competition markets
Coca-Cola and Pepsi logo vs 2 sodas in a clear glass
- How advertising brands makes a difference in consumers choice
Information Advertising – price, quality and availability information
- Super Comerica (good product because company that has a lot of
money)
Advertising as part of the product – with the label Coke, it can remind people of
good times with friends
In favor of Advertising
- Informs consumers
- Enhance enjoyment of product
Not in favor of Advertising
- Manipulative
- Monopoly power
- Barrier to enter
 Monopolistic Competition: P = AC
- Relativity Elastic
Efficiency
- Cannot achieve productive efficiency
- Cannot achieve allocated efficiency

Chapter 18 – Marginal Product of Labor (MPL) – increase in revenue created by hiring an

Labor Markets additional worker
- D = MPL
- Firms will hire if a worker if MPL > Wage
MPL declines as more workers are hired
- 1st worker = 30$ an hour
- 8th worker = 5$ an hour
- If the wage rate is high, not many workers will be hired
Human Capital Theory – treats acquisition of education and training as
“investments”
- More education = higher pay
Compensating Differential – difference in wages that offsets differences in
working conditions
- High risk job (unsafe) = higher pay
- Low risk job (safe) = lower pay
Unions – unionized jobs tend to have higher pay than nonunionized jobs
- Unions may restrict supply or simply negotiate an above marketing
clearing wage
Labor Market Discrimination – individuals “priced” differently
- Race, sex, ethnicity
Statical Discrimination
- Decisions based on groups of people
- EX: women drivers, obese people
Sometimes, banning Statical Discrimination harms these groups
- Employers look for their own statics leading to hiring less minorities
Discriminating employers leads to:
- NOT maximizing profits
- Can be displaced by people who DO NOT discriminate
Preference Based Discrimination – workers who do not wish to mix with people
from different groups
Employee based discrimination – engineering male dominated group
Customer based discrimination – only hiring males at an OBGYN office
- Less customers as people avoid these establishments
- Lower revenues
Government policies now reduce race and sex discrimination
Buyers = firms
Sellers = workers
Chapter 19 – Non-Rival – one person use does NOT reduce ability of another person to use
Public Goods same good
and the Tragedy - Cable TV
- Wi-Fi
of the Commons
Rival – impacts the ability of someone to have the same good
- Tofu
- Tuna (going extinct)
Excludable – if people don’t pay, they cannot obtain the good
- Tofu (need to pay)
Non-excludable – do NOT need to pay for a good to obtain it
- Air
- Public roads

Private Goods (rival and excludable)

- EFFIECENT in competitive markets
- Strong incentive to pay for it
- Doctors visit
- Apples
Club Goods (non-rival and excludable)
- Cable TV
- Computer software
- Can lead to P > MC = DWL
Public Goods (non-rival and non-excludable)
- Don’t pay (free) and do take anything away from someone else
- Public sanitation
- Lighthouses
Common Resources (Rival and non-excludable)
- Anyone can catch a fish but not everyone can catch the SAME fish
(causing rivalry)
- Cows gazing land (some cows eat more while others don’t eat and
benefit the land  rivalry)
Free Rider – benefits from good but does not pay for it
- Government taxes citizens and it compensates for the free riding
problem
Forced Rider – someone who pays a share of a cost but does NOT enjoy the
benefits
- Taxing renovation of a national park  but people don’t go there
Tragedy of Common – no one owns the resource, so all users have an incentive
to overuse it
- Space debris
- Dumping waste in the ocean
- Chickens = owned and not endangered
- Tuna = not owned and endangered
- There is NO incentive to maintain tuna resources = no profits
Command and Control – limited # of boats allowed in water
- In contrast, people buy bigger boats with fish finders and large engines