Introduction to Iandustrial

Economics

Dr. Muhammad Shahadat Hossain Siddiquee

Professor, Department of Economics
University of Dhaka
E-mail: shahadat_eco@yahoo.com
Contact: +8801719397749
Introducing Industrial Economics
• Industrial Economics is the study of firms, industries, and markets. It
looks at firms of all sizes – from local corner shops to multinational
giants such as WalMart or Tesco. And it considers a whole range of
industries, such as electricity generation, car production, and
restaurants.
• When analysing decision making at the levels of the individual firm and
industry, Industrial Economics helps us understand such issues as:
- the levels at which capacity, output, and prices are set;
- the extent that products are differentiated from each other;
- how much firms invest in research and development (R&D)
- how and why firms advertise
Introducing Industrial Economics….
• Industrial Economics also gives insights into how firms organise their activities,
as well as considering their motivation. In many micro courses, profit
maximisation is taken as given, but many industrial economics courses examine
alternative objectives, such as trying to grow market share.
• There is also an international dimension – firms have the option to source inputs
(or outsource/contract out production) overseas.
• While industrial economics more frequently uses skills and knowledge from
micro courses, macroeconomic concepts are sometimes employed.
• One of the key issues in industrial economics is assessing whether a market is
competitive. Competitive markets are normally good for consumers (although
they might not always be feasible) so most industrial economics courses include
analysis of how to measure the extent of competition in markets. It then
considers whether regulation is needed, and if so the form it should take. There
is again an international dimension to this, as firms that operate in more than one
country will face different regulatory regimes.
Introducing Industrial Economics….
• Industrial Economics uses theoretical models to understand firm and regulatory
decision making, and so students should expect to use diagrams and maybe some
basic mathematical models. In addition, researchers often develop empirical
statistical models to identify relationships between variables of interest: for
example to understand the relationship between product price, advertising, and
profits.
• While most courses will not require students to conduct their own empirical
analysis (that is left to the econometrics courses) understanding and interpreting
empirical results is an important skill.
• Industrial Economists are also highly employable. There is an entire industry of
consultancies and government agencies (such as the Office of Fair Trading (OFT) and
the Competition Commission (CC)) concerned with competition policy. There is an
equally large set of consultancies and regulators and the course is concerned with
the economics of regulation.
Structure–Conduct–Performance (SCP) Theory
• The structure–conduct–performance (SCP) paradigm, first published by economists Edward
Chamberlin and Joan Robinson in 1933, and developed by Mason (1939, 1959) and Bain
(1951, 1956 is a model in Industrial Organization Economics which offers a causal
theoretical explanation for firm performance through economic conduct on incomplete
markets. This model has had direct influence on subsequent Industrial Economics models.
• According to the structure–conduct–performance paradigm, the market environment has a
direct, short-term impact on the market structure. The market structure then has a direct
influence on the firm's economic conduct, which in turn affects its market performance.
Therein, feedback effects occur such that market performance may impact conduct and
structure, or conduct may affect the market structure. Additionally, external factors such as
legal or political interventions affect the market framework and, by extension, the structure,
conduct and performance of the market.
• Economists have developed a branch of economic analysis called Industrial Organization to
trace the relationship between the structure of a market and the performance of the firms
in that market.
SCP Theory…
• Markets have three elements that may be the focus of public policy: structure, conduct, and
performance (SCP).
• The structure of a market is the set of conditions and characteristics that describe and define
the market type.
• Research on the structure of the market is oriented to the degree of concentration of the
market, namely the number of participating agents (buyers and sellers), the degree of product
differentiation and the conditions of entry and exit in the market (barriers to entry or exit). In
Bain’s view the structure of the market, since it is an organisation, influences the nature of
competition and the method of fixing the price of goods or products exchanged in a strategic
way.
• The structure of the market as part of the S-C-P model therefore consists of :
- the number and size distribution of firms;
- the extent of product differentiation;
- the effectiveness of barriers to entry and
- the degree to which the industry is vertically integrated.
Market Structures
Perfect Monopolistic Oligopoly Pure
Competition Competition Monopoly

No. and Many Many A Few One

Size of
Firm
Extent of Identical Different Identical or No Close
Product Different Substitute
Differentiation

Barriers to None None Moderate to Blocked

Entry Difficult
Conduct
• The behavior of firms in the market is identified by the principles, methods and actions
employed by actors intervening to establish their prices. These are also the strategies that
actors use in negotiating prices, the method of payment and the degree of
communication between them.
• The elements that make up the behaviour of firms as part of the S-C-P model therefore
consist of the strategy of fixing prices and the volumes produced, investment in
marketing and advertising, internal growth (R&D, innovation strategy, investment), and
external growth (merger/acquisition, agreement, cooperation).
• Therefore, Conduct refers to the behavior, policies, and strategies used by the firms in the
industry. To describe firms’ conduct, economists consider the strategies used by firms as
they affect
• Pricing;
• Production;
• Promotion; and
• Distribution
Performance

• Performance is measured directly by the production and commercialisation of products to satisfy

society’s well-being.
• For Bressler and King (1970), the performance of the market also relates to the impact of the
structure and functioning of the market, measured in terms of price, costs and volumes of products.
It can also be considered as the ability of producers to market products to consumers, not
forgetting the level of margins, which is dependent on the level of prices charged.
• The criteria of evaluation of market performance are, therefore, prices, costs of commercialisation
and commercial margins. We can add the quality of products, the efficiency of production, the
allocative efficiency of resources, technical progress and the evolution of the market shares of firms.
• Performance refers to the economic outcomes that result from the market structure and the firms’
conduct. To evaluate an industry’s performance, economists consider
• Allocation efficiency;
• Production efficiency;
• Equity; and
• Technological advancement.
SCP Model at a Glance