INDUSTRIAL ECONOMICS

INTRODUCTORY REMARKS
SEPTEMBER 2005

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 ORTHODOX MICRO /1
• Market allocative mechanism
• Firms & consumers behaviour for
‘ideal’ operation
• Normative, top down theory
– Does not answer policy-related
questions (market-abuse limitation,
merger policy etc)

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 ORTHODOX MICRO /2
• WELFARE ASPECTS
– Model of the firm; pricing and output
implications
• Perfect competition
• Monopoly
• Cournot
• Monopolistic competition
• Managerial models

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 STRUCTURAL APPROACH
• Bain and the Harvard School and the
S-C-P paradigm
– Structural characteristics of the market
determine the behaviour of firms which
in turn determines their performance
– Similar welfare implications
– Particular to general, inductive and
empirical approach
– The focus is the industry (market)
instead of the firm
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 Chicago School
• Demsetz questions the causality in the
SCP model of large firms leading to big
profits
• Well run and efficient firms become both
large and earn big profits
• Policy implications are completely
different to those of the SCP approach; if
profits are the reward for efficiency then
penalties on the former discourages the
latter!
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 Other approaches /1
• Austrian ; allocation of resources
determined by the ‘votes’ of the
consumers given their ability to spend
• If the entrepreneur guesses correctly
what the consumers want he gets a lot of
the ‘votes’ (profits)
• Hence large profits are the essential
ingredient for the market to adjust to the
consumers wishes
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 Other approaches /2
• Schumpeterian: Big firms are essential for
innovation and in particular for large
technological leaps: they have both the
ability and the willingness to spend big
money for major projects.
• Large market size means market power;
but this is needed for the large R&D
investments to be undertaken and to be
successful.

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 ORTHODOX THEORY
REVISITED
• Markets are imperfect because information is
imperfect.
• Introducing imperfect information and the use of
game theory provides a foundation for strategic
behaviour (conduct!) by the firms.
• Equally in the context of shareholders and
managers in managerial models behaviour can be
explained using the principal-agent theory.
• These theoretical developments are the re-birth of
the orthodox theory and constitute the theoretical
foundations of the new Industrial Organisation.

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 So what is conduct?
• Pricing decisions
• Advertising
• R&D spending
• Marketing strategies
• ALL OF THE ABOVE CAN BE BOTH
STRUCTURAL OR STRATEGIC

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 Feedback mechanisms
• Structure determines conduct, but there
is also a feedback mechanism:
– E.g. successful strategies by a firm eliminate
rivals and make the market more
concentrated
• Government policy and competition
legislation in the form of antitrust and
regulation seeks to affect both
• Conduct of firms may affect government
policy (e.g. lobbying)
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 What is performance?
• Profitability
• Efficiency
• Product quality
• Technical progress

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