Competition models.

Perfect competition is a hypothetical model that doesn’t exist in reality. It assumes: 1) all the firms produce identical products; 2) there are large number of independent firm; 3) no barriers to entry or exit; 4) each of players is so small that it can’t affect the situation on the market.

Individual firms’ demand is perfectly elastic. Each of companies maximizes profits at the point where MR=P=MC=ATCmin. Companies run zero economic profit in long-term. In short-term decisions are made based on the market price level in relation to AVC and ATC. If company doesn’t cover its AVC, it has to be closed. If the price is high enough to cover AVC, but not ATC, a company may still exist in short-term, with a hope, that it will break even (P=ATC) in future.

Changes in market demand may lead to the situation that in short-term companies will have economic profits, but those profits will attract new companies, it will create pressure on price that will eventually reach an equilibrium level, eliminating the opportunity to earn economic profits.

This model is said to be the most effective, as it maximizes both consumer and producer surpluses.

28. Monopoly model & profit maximization.

Monopoly is characterized by one seller of a specific, well-defined product that has no good substitutes. Barriers to entry are high: licenses, patents, natural barriers (economies of scale).

A natural monopoly is a situation when the average cost of production for a single firm is falling throughout the relevant range of consumer demand (utility companies). This fact justifies their existence.

Monopoly decides for a quality when MC=MR and defines the price looking at Demand curve. Monopolies are price searchers. They experiment different prices to find the one to maximize its profits.

Monopoly can apply strategy of price discrimination. It is only possible when two or more groups of customers are defined and they can’t resell products. This strategy helps to reduce inefficiency of the monopoly, as monopoly finds the way to monetize the consumer surplus. With a perfect price diversification the monopoly captures 100 percent of a consumer surplus.

Date: 2015-02-03; view: 717