Category: Industrial Organisation

Why is Competition Good?

Posted on by Rhys Williams

Firms have to be competitive in order to keep profits up and to remain in business. If they didn’t keep prices low then other firms could enter the market and undercut the incumbent firm, thus taking away its market share and supernormal profit. Alternatively rivals may do the same. These low prices benefit consumers and should result in more consumer surplus. Because prices are lower more of the good is demanded and hence the firm will produce more, this reduces allocative inefficiency as more resources are going towards the production of goods and services demanded by consumers (a definition of allocative efficiency). [...]

Limitations of the Concentration Ratio

Posted on by Rhys Williams

An evaluative point to the use of the concentration ratio is that there may be problems defining the market. If a competition watchdog used the ratio to measure whether or not a firm is defined as a monopoly (if the ratio produces a result greaterthan 25%) how does it decide the width and depth of the market.

For example when trying to identify the market that Facebook lies in, would the watchdog include photo-sharing websites (as Facebook owns Instagram), does it also include phone apps. Calculating the size of the market may not be as simply as it first seems!

Also concentration ratios may provide a misleading result. [...]

Marginal Costs

Posted on by Rhys Williams

Marginal cost is the rate of change of the total cost (ΔTC/ΔQ) and is dependent on the variable cost. This is because fixed cost is a constant and doesn’t affect the rate of change (remember, rate of change is effectively the differential of a function, in this case it would be the differential of the total cost function). Therefore any increase in fixed costs will have a 0 effect on Marginal Cost.

This can be shown in the tables below:

A firm’s fixed costs increase by 20%, what will marginal costs increase by?

Before FC Rise:

Q FC VC TC MC
0 10 5 15 –
1 10 7 17 2
2 10 9 19 2

After FC Rise:

Q FC VC TC MC
0 12 5 17 –
1 12 7 19 2
2 12 9 21 2

As we can see the 20% increase in fixed costs has no affect on the marginal costs. [...]

Discuss whether a concentrated market is necessarily anti-competitive

Posted on by Rhys Williams

A concentrated market (one in which there is a high value for the n-concentration ratio) is a market in which there are few firms which possess a relatively large market share. This fulfils one of the criterion of an oligopolistic market.

Because the market consists of only a few firms we may assume that there are economies of scale to be had by producing a large output. Due to this a few large firms will be able to exploit these economies of scale and hence will be operating a lower point on their average cost curve. Due to this they may be able to charge their consumers a lower price and hence may be more competitive than if the market consisted of many firms who couldn’t exploit these economies of scale and hence had higher costs which they had to pass on to consumers in the form of higher prices despite the markets theoretically being more competitive. [...]

Why Tesco’s is launching a Price War

Posted on by Rhys Williams

Tesco is trying to increase its market share against rivals Asda and Sainsbury’s. By reducing its prices on basic goods it is more likely to get a higher footfall, we would also expect the increase in quantity demanded to offset the money lost due to lowering the prices. This means we would expect the Total Revenue to drop slightly but not by much.

With more people visiting stores to buy these cheap goods they would also see other goods in store such as the electrical and technological goods which they are more likely to buy, again this would offset the money Tesco would loose from reducing their profit margin. [...]

Price Discrimination: Motorway Service Stations

Posted on by Rhys Williams

A recent survey by TravelSupermarket.com discovered that a family of 4 could be paying almost £29 for a basic lunch (sandwich, crisps, a chocolate bar and a drink) at a service station.

A 500ml of bottle water costs £1.27 on average at a motorway service station whereas it is 25p in an Asda supermarket. For a sausage roll it is 40p in Asda and the equivalent costs £2.30 at a service station.

Is this an example of price discrimination or do service stations simply have much higher costs that they have to pass on?

Obviously motorway service stations don’t benefit from the economies of scale that supermarkets do, for a start the shop itself is smaller, meaning it has much less shelf space and may even have higher labour costs, as staff will need to be compensated for travelling further to work. [...]