Market Structures: Externalities, Competition, and Monopoly

Posted on Dec 16, 2024 in Economy

Market Externalities and Their Impact

Negative Externality: The production of aluminum results in pollution, posing health risks due to atmospheric pollutants.

Positive Externality: Construction projects, like train stations, can provide shelter. New technologies, such as database programs, can boost productivity when implemented by other firms.

Positive Consumption Externality: Education, when knowledge is shared, creates added value.

Negative Consumption Externality: Driving under the influence of alcohol.

Transaction Costs and Market Inefficiencies

Further Problems:

  1. Number of parties involved: Higher numbers increase costs.
  2. Asymmetric information: Difficult to negotiate efficient outcomes.
  3. Free riders: Non-payers benefit from agreements.

Corrective Measures

Pigovian Taxes: Taxes designed to correct negative externalities, such as pollution.

Tradeable Pollution Permits: Government-issued permits allow firms to trade pollution rights, efficiently allocating pollution reduction efforts.

Firms in Competitive Markets

Relationship between Short-Run Supply Curve and Firm Decisions: Firms decide whether to operate or shut down based on short-run costs.

Monopoly

Monopoly Definition: A single seller with no close substitutes, exerting market control.

Causes of Monopolies

  1. Natural Monopoly: Economies of scale allow one firm to produce at a lower average cost.
  2. Control over raw materials or low-cost production techniques.
  3. Patents, copyrights, and trademarks.

Price Discrimination

Examples:

  1. Cinema tickets: Lower prices for children and seniors.
  2. Quantity discounts: Lower prices for additional units.

Public Policies Against Monopolies

  1. Competitive legislation: Banning anti-competitive pricing strategies.
  2. Public ownership: Government operation of monopolies.

Monopolistic Competition

Key Differences:

  • Many sellers competing for the same customers.
  • Product differentiation reduces substitutability.
  • Customer loyalty.
  • Downward-sloping demand curve for each firm.
  • Free entry and exit.

Examples: Computer games, restaurants, driving schools, dentists, music teachers, books, hotels, air conditioning systems.

Advertising as a Signal of Quality

Firms that invest heavily in advertising signal product quality. For example, Kellogg’s advertising is effective because their cereal is high quality, while Nestle’s advertising is not as effective because their cereal is mediocre.

Oligopoly

Oligopoly Definition: A market with few sellers offering similar or identical products (e.g., chocolate bars, crude oil).

Concentration Ratio: Measures the market share of the top firms. A high ratio indicates a concentrated market.

Game Theory: Study of strategic decision-making, essential for understanding oligopolies.

Cooperation in Oligopolies

Firms may cooperate to avoid the worst outcomes, even if it means forgoing maximum profit. Penalizing non-cooperative behavior is crucial for maintaining cooperation.