00:00:47,970 --> 00:00:53,740

and produce less for the market than we would

Lesson 6 get under perfect competition.
Module 1 - Why Study Imperfect
10
Competition? 00:00:53,740 --> 00:00:58,910
However, we will also see that this is not always a
1 bad thing.
00:00:13,080 --> 00:00:17,290
Ms. Giraffe: Mr. Zebra. How would you define 11
competition? 00:00:58,910 --> 00:01:06,250
Indeed, the benefits of at least some monopolies
2 range from the exploitation of economies of scale
00:00:17,290 --> 00:00:20,960 to
Mr. Zebra: Competition is when everyone tries to
get a monopoly. 12
00:01:06,250 --> 00:01:11,970
3 the acceleration of technological change to
00:00:20,960 --> 00:00:22,850 stimulate higher rates of long term growth.
Ms. Giraffe: What’s monopoly?
13
4 00:01:13,010 --> 00:01:15,930
00:00:22,850 --> 00:00:25,210 The broader point of this lesson will be this.
Mr. Zebra: You shall certainly find out in this
lesson. 14
00:01:15,930 --> 00:01:19,920
5 If you understand how imperfectly competitive
00:00:25,210 --> 00:00:28,590 markets work,
Hi, Professor Navarro here once again. And in this
lesson, 15
00:01:19,920 --> 00:01:25,880
6 you will understand a whole lot better how the
00:00:28,590 --> 00:00:35,480 economies of industrialized nations function.
we are going to travel to the opposite pole of
perfect competition and visit with the market 16
structure of monopoly, 00:01:25,970 --> 00:01:32,100
And why they sometimes function very well, but
7 sometimes function very poorly.
00:00:35,480 --> 00:00:42,140
and a related form of imperfect competition called 17
monopolistic competition. 00:01:41,700 --> 00:01:46,290
In fact, various forms of monopoly have been with
8 us throughout history
00:00:42,140 --> 00:00:47,970
Perhaps not surprisingly, we'll see that 18
monopolists generally charge higher prices 00:01:46,290 --> 00:01:55,340
and nowhere has this been more true in a country
9 which prides

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 itself on its capitalistic roots – the United States of Rockefeller was able to gain control of fully 95%
America. of all the pipelines and refineries in America --

19 29
00:01:55,340 --> 00:02:01,890 00:02:54,190 --> 00:02:57,980
In fact, between 1870 and 1914, the so-called after which, of course, he promptly raised prices.
gilded age of America,
30
20 00:02:57,980 --> 00:03:03,870
00:02:01,890 --> 00:02:05,120 Rockefeller didn't stop there however. He devised
monopolists pretty much ran amuck. an ingenious new device to maintain control –

21 31
00:02:05,120 --> 00:02:12,630 00:03:04,190 --> 00:03:06,190
In this era, legendary and often unscrupulous the so-called trust.
figures, like John D Rockefeller, J Gould,
32
22 00:03:06,190 --> 00:03:09,190
00:02:12,630 --> 00:02:18,850 In Rockefeller’s monopolist version of a trust,
Cornelius Vanderbilt, Andrew Carnegie, and J.P
Morgan were able to corner the markets 33
00:03:09,190 --> 00:03:09,480
23 shareholders turned their shares over to trustees
00:02:18,850 --> 00:02:25,120 In Rockefeller’s monopolist version of a trust,
in everything from oil and steel and the railroads
to kerosene, sugar and salt. 34
00:03:09,480 --> 00:03:12,660
24 shareholders turned their shares over to trustees
00:02:25,120 --> 00:02:29,920
And no one epitomized the gilded age monopolist 35
better than Rockefeller, 00:03:12,660 --> 00:03:17,390
who would then maximize the profits by managing
25 the industry.
00:02:29,920 --> 00:02:37,590
who saw visions of riches in the fledgling oil 36
industry and began to organize oil refineries. 00:03:17,390 --> 00:03:23,610
In effect, these trusts were essentially cartels. And
26 here’s your first Key Definition:
00:02:37,880 --> 00:02:43,170
Using a combination of shrewd management, 37
secret deals with the railroads and 00:03:23,610 --> 00:03:28,060
A cartel is simply an organization of independent
27 firms,
00:02:43,170 --> 00:02:46,350
an utter ruthlessness in crushing his competitors, 38
00:03:28,060 --> 00:03:34,230
28 producing similar products that work together to
00:02:46,350 --> 00:02:54,190 raise prices and restrict output.

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 Said the court in Spectrum Sports, Inc. v.
39 McQuillan in 1993:
00:03:34,230 --> 00:03:39,740
And note here that the emphasis is on working 49
together to set prices. 00:04:27,660 --> 00:04:33,700
The purpose of the [Sherman] Act is not to protect
40 businesses from the working of the market;
00:03:39,740 --> 00:03:48,370
In fact, Rockefeller’s trust device worked so well 50
that other industries 00:04:33,900 --> 00:04:37,510
soon imitated Rockefeller's Standard Oil trust it is to protect the public from the failure of the
market.
41
00:03:48,370 --> 00:03:51,040 51
to consolidate their monopoly power – 00:04:37,510 --> 00:04:42,190
The law directs itself not against conduct which is
42 competitive, but
00:03:51,040 --> 00:03:55,340
and price gouge consumers across a large 52
spectrum of goods and services. 00:04:42,190 --> 00:04:48,310
against conduct which unfairly tends to destroy
43 competition itself.
00:03:56,470 --> 00:04:00,940
The result was a massive political backlash and 53
the passage 00:04:49,030 --> 00:04:54,590
Today, the unregulated monopolies of centuries
44 past in America are rare
00:04:00,940 --> 00:04:05,600
of some of the most sweeping antitrust laws the 54
world has ever seen. 00:04:54,590 --> 00:04:58,070
but they still persist in many countries around the
45 world.
00:04:06,050 --> 00:04:10,400
These included the landmark Sherman Antitrust 55
Act in 1890 00:04:58,070 --> 00:05:02,570
One of the most famous, for example, is the
46 DeBeers diamond cartel
00:04:10,400 --> 00:04:15,110
and you can see in this quotation from a decision 56
by the U.S. Supreme Court 00:05:02,570 --> 00:05:08,280
which controls a majority of the diamond mines in
47 South Africa, Namibia, and Botswana.
00:04:15,110 --> 00:04:22,870
the economic roots of antitrust laws in the notion 57
of a “market failure” due to imperfect competition. 00:05:08,280 --> 00:05:13,380
And up until the 1980s, virtually ruled the
48 diamond market.
00:04:22,870 --> 00:04:27,660

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 58
00:05:13,700 --> 00:05:17,920
Still another company which is able to exert
significant monopoly power

59
00:05:17,920 --> 00:05:20,900
is the agribusiness giant Monsanto.

60
00:05:20,900 --> 00:05:24,140
It controls a sizeable share of the seed market

61
00:05:24,140 --> 00:05:30,630
and it has been able to tighten its control
through the use of patented genetically modified
seeds.

62
00:05:31,340 --> 00:05:38,320
Finally, it is well worth noting that while cartels
are illegal in most industrialized countries,

63
00:05:38,320 --> 00:05:45,810
the biggest cartel on the planet is OPEC, which
stands
for the Organization of Petroleum Exporting
Countries –

64
00:05:45,810 --> 00:05:49,080
and more about cartels and OPEC later.

65
00:05:49,080 --> 00:05:52,990
For now take a breather and then on to module
two!

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 Lesson 6 And I'll give you a hint:
Do you remember the profit maximizing rule from
Module 2 - Monopoly Defined and the last lesson?

Monopoly’s Pricing Rule 9

00:01:08,790 --> 00:01:12,160
Please PAUSE the lesson now as you think this
1 through.
00:00:13,310 --> 00:00:18,470
Okay welcome to module 2 and let's start of with 10
this key definition of monopoly. 00:01:12,160 --> 00:01:16,830
Where do you think the monopolist will set market
2 price?
00:00:19,180 --> 00:00:27,270
monopoly exists when there is only one seller in 11
the market 00:01:19,140 --> 00:01:22,780
selling a product for which there are no close The correct answer is C. Did you get it right?
substitutes.
12
3 00:01:22,780 --> 00:01:25,400
00:00:27,270 --> 00:00:34,830 Here’s the deal: In the last lesson,
In such a case, the monopolist is not
a price taker as was our perfectly competitive firm. 13
00:01:25,400 --> 00:01:30,550
4 I made the claim that all profit-maximizing firms
00:00:34,830 --> 00:00:43,580 will set price
Rather, it is a price maker -- meaning that it exerts
considerable control over what the market price 14
will be. 00:01:30,550 --> 00:01:36,430
where the marginal revenue from an additional
5 unit sold equals its marginal cost.
00:00:43,580 --> 00:00:52,390
And please note: the monopolist has this power, 15
because it also controls quantity supplied in the 00:01:36,430 --> 00:01:40,400
market. Let me prove that to you now in the case of
monopoly.
6
00:00:52,390 --> 00:00:58,690 16
Now, under our now familiar assumption that the 00:01:40,400 --> 00:01:43,820
monopolist wants to maximize profits, Take a look at this table. And for starters,

7 17
00:00:58,690 --> 00:01:02,510 00:01:43,820 --> 00:01:46,690
where do you think the monopolist will set the see if you can fill in the empty boxes.
market price?
18
8 00:01:46,870 --> 00:01:54,030
00:01:02,510 --> 00:01:08,790

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 And remember, the firm's profit or loss is simply Be sure to label your axis. This should be a fun
total revenues minus total cost. little exercise,

19 29
00:01:54,030 --> 00:01:58,110 00:02:58,690 --> 00:03:05,820
So PAUSE now and give it a try. so PAUSE the presentation now to see if you can
really get the graph right.
20
00:02:03,760 --> 00:02:06,830 30
Did you get it right? 00:03:09,180 --> 00:03:11,760
Does your graph look like this?
21
00:02:07,100 --> 00:02:12,440 31
Now, scanning this table, at what price and 00:03:11,760 --> 00:03:17,540
quantity are profits maximized? Let’s first note point E. That's where marginal
revenue equals marginal cost –
22
00:02:12,870 --> 00:02:19,090 32
And at this point, what is the relationship between 00:03:17,540 --> 00:03:20,740
marginal revenue and marginal cost? our profit-maximizing rule.

23 33
00:02:19,090 --> 00:02:22,570 00:03:20,740 --> 00:03:28,650
Again, let’s PAUSE the presentation now and really Now, moving up to point G on the demand curve,
nail this. the monopolist will set the price at 120 by this
rule.
24
00:02:29,850 --> 00:02:37,920 34
That's right. Profits are maximized where 00:03:28,650 --> 00:03:34,510
marginal revenue MR equals marginal cost MC. And check this out. Here, economic profit is
measured by the shaded rectangle.
25
00:02:37,920 --> 00:02:44,510 35
At this point, price equals 120 and quantity equals 00:03:34,870 --> 00:03:42,200
4. Note also that the price is NOT set at the highest
possible price the monopolist could charge.
26
00:02:44,510 --> 00:02:46,650 36
Now using the data from this table, 00:03:42,200 --> 00:03:47,140
For example, the monopolist could charge 175.
27
00:02:46,650 --> 00:02:54,870 37
take a minute to draw the curves for demand, 00:03:47,140 --> 00:03:54,700
marginal revenue, average cost, and marginal However, the total monopoly profits would be
cost. lower –
so that wouldn’t make sense.
28
00:02:54,870 --> 00:02:58,690 38

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 00:04:00,960 --> 00:04:05,980 So, you can clearly see here that monopoly is both
Now let's remind ourselves of two of the inefficient and redistributes income
really BIG reasons why we don't like monopoly.
48
39 00:05:11,140 --> 00:05:14,910
00:04:06,430 --> 00:04:09,850 in a way that many would describe as unfair.
So take a look at this graph from the previous
lesson 49
00:05:16,030 --> 00:05:20,290
40 The question for public policy and the government
00:04:09,850 --> 00:04:15,850 is what to do about monopoly?
in which the monopolist charged a price higher
than the perfectly competitive outcome. 50
00:05:20,290 --> 00:05:23,540
41 And the answer is not as easy as you might think.
00:04:15,850 --> 00:04:23,780
Now from this graph, can you tell me two things: 51
First, how much is the dead weight loss? 00:05:23,940 --> 00:05:32,250
To show you what I mean, we will have to first
42 delve into the case
00:04:23,780 --> 00:04:33,310 of the so-called natural monopolist in our next
And second, how much income is redistributed module.
from
consumers to the monopolists because of 52
monopoly pricing? 00:05:32,510 --> 00:05:36,850
So take a breather now, and when you are ready,
43 forge ahead!
00:04:33,310 --> 00:04:35,610
Please PAUSE now to figure this out.

44
00:04:42,250 --> 00:04:47,800
Of course, the correct answer is A – and I’m pretty
sure you got it right.

45
00:04:47,800 --> 00:04:57,580
In the graph, you can see that the loss in
allocative efficiency
or dead weight loss equals the triangles C plus E.

46
00:04:57,580 --> 00:05:04,290
In addition, a rectangle of consumer surplus B is
transferred to the monopolist.

47
00:05:04,290 --> 00:05:11,140

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Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 Lesson 6 00:00:56,240 --> 00:01:00,770
From the downward slope of the average total
Module 3 - Regulating Natural cost curve, ATC,

Monopoly; the P=AC Rule; X- 9

00:01:00,770 --> 00:01:08,270
efficiency Under Cost-Plus Pricing; you can see that this industry is characterized by
Schumpeter’s Argument for increasing returns to scale over the relevant range
of output.
Monopoly
10
1 00:01:09,210 --> 00:01:16,370
00:00:13,080 --> 00:00:16,990 In fact, this is an important graph in every
So just what the heck is ever natural about industrial society
monopoly? because it depicts in varying degrees

2 11
00:00:16,990 --> 00:00:21,210 00:01:16,370 --> 00:01:20,810
Well, do you remember what you learned in a number of industries critical not just for meeting
Lesson Four about production theory? social needs

3 12
00:00:21,210 --> 00:00:24,240 00:01:20,810 --> 00:01:27,840
And the shape of the long run average total cost but also for providing the kind of infrastructure
curve? any successful business is going to have to rely
on.
4
00:00:24,900 --> 00:00:32,950 13
Let’s refresh that memory as you take a look at 00:01:28,990 --> 00:01:32,210
these /nfour graphs and shapes of the average I’m talking, of course, about things like electricity,
total cost curve. gas,

5 14
00:00:33,350 --> 00:00:39,040 00:01:32,210 --> 00:01:38,970
Do you remember which one characterizes natural and water distribution which no business
monopoly and why that is so? or home in a modern society can do without.

6 15
00:00:39,040 --> 00:00:44,000 00:01:38,970 --> 00:01:44,330
Please PAUSE the presentation now to figure that Of course, here’s the problem this natural
out and jot down your answer. monopoly situation creates:

7 16
00:00:49,880 --> 00:00:56,240 00:01:44,330 --> 00:01:48,370
Well, it is this graph in the lower right hand corner Because of increasing returns to scale, over time,
that illustrates natural monopoly.
17
8 00:01:48,370 --> 00:01:54,820

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 one firm will inevitably emerge as
the low cost producer and capture the entire 27
market. 00:02:52,090 --> 00:02:57,630
So scratch that idea – at least for most natural
18 monopolies. So what should we do?
00:01:54,820 --> 00:02:00,020
The question is: What should society do about 28
natural monopoly? 00:02:57,630 --> 00:03:04,760
Well, was one of your ideas to simply allow
19 the natural monopoly to exist but regulate its
00:02:00,020 --> 00:02:07,930 prices?
And the kneejerk response is often to use tools
like antitrust regulationto order the breakup of the 29
monopoly. 00:03:04,760 --> 00:03:10,850
Well, that certainly has potential. But what exactly
20 would you set the price to?
00:02:07,930 --> 00:02:13,960
But is that the best idea? Can you think of another 30
way to go about this? 00:03:10,850 --> 00:03:14,360
That’s our next puzzle to figure out.
21
00:02:13,960 --> 00:02:18,970 31
Please PAUSE the presentation now and just jot 00:03:17,720 --> 00:03:22,070
down a few possible alternatives. So knowing what you know so far about pricing
rules,
22
00:02:30,650 --> 00:02:33,940 32
Okay, let’s figure this out. And let’s start by 00:03:22,280 --> 00:03:29,840
observing take a look at this graph and tell me where you
would set
23 the regulated price for this regulated natural
00:02:33,940 --> 00:02:36,700 monopoly?
that if you simply break up a natural monopoly,
33
24 00:03:29,840 --> 00:03:36,960
00:02:36,700 --> 00:02:44,250 Please PAUSE the presentation now to figure out
you will have a number of smaller firms producing what is actually a really interesting puzzle.
at a significantly higher unit cost than the
monopolist. 34
00:03:40,300 --> 00:03:43,010
25 Now just how did you answer this question?
00:02:44,250 --> 00:02:47,460
So consumers will still have to pay higher prices 35
00:03:43,010 --> 00:03:48,240
26 I suspect you may have been tempted to regulate
00:02:47,460 --> 00:02:52,090 the monopolist in a way
AND there will be a possibly even bigger efficiency
loss. 36

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 00:03:48,240 --> 00:03:55,040 would be to receive a subsidy from the
which simply forces the monopolist to set price government equal to its loss.
equal to the natural monopolist’s marginal cost.
45
37 00:04:48,410 --> 00:04:51,880
00:03:55,260 --> 00:04:03,740 While economically this may make sense,
After all, at this point, price regulation would
effectively 46
simulate the outcome in a perfectly competitive 00:04:51,880 --> 00:05:00,260
market, it would likely be a tough sell politically as
subsidizing a
38 big monopoly may not appeal to taxpayers and
00:04:03,740 --> 00:04:09,790 voters.
and therefore that should yield the allocatively
efficient outcome, shouldn’t it? 47
00:05:01,390 --> 00:05:07,210
39 So what is our next best, or
00:04:09,790 --> 00:04:20,970 what we call in economics, our second best
True that. BUT setting price at Point A where price option?
equals marginal cost
may not be the most feasible answer in the real 48
world of politics. 00:05:07,970 --> 00:05:12,240
Well, the more politically feasible option is point C.
40
00:04:22,060 --> 00:04:24,140 49
Just why is this so? 00:05:12,460 --> 00:05:16,330
This is where price equals average cost.
41
00:04:24,140 --> 00:04:31,750 50
Well, simply because this pricing rule would force 00:05:16,410 --> 00:05:25,440
the Under this scenario the monopolist earns zero
monopolist to lose money equal to the shaded economic profits –
triangle, and, as we have learned, that’s enough to stay in
business.
42
00:04:31,880 --> 00:04:36,860 51
which is simply price times average cost minus 00:05:25,790 --> 00:05:31,160
revenues. At the same time, this P=AC rule,

43 52
00:04:37,230 --> 00:04:42,700 00:05:31,160 --> 00:05:36,250
Therefore, at this point, reduces if not eliminates, monopoly price gouging
the only way the monopolist could really stay in of consumers.
business over time
53
44 00:05:36,250 --> 00:05:44,680
00:04:42,700 --> 00:04:47,350 And as should be apparent from our figure,

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 the dead weight loss is considerably smaller than 00:06:31,260 --> 00:06:33,610
under pure monopoly. as illustrated in this figure.

54 63
00:05:44,680 --> 00:05:49,210 00:06:33,700 --> 00:06:39,560
And because of these many virtues, this price Here's the deal:
equals average cost rule, Suppose you are the chief executive officer of a
regulated electric utility
55
00:05:49,210 --> 00:05:57,150 64
has in fact been used in industrial countries 00:06:39,560 --> 00:06:46,600
around the world and your price is set by the P equals AC rule.
to regulate prices in natural monopoly industries What does this do to your incentive to maximize
profits?
56
00:05:57,150 --> 00:06:05,930 65
ranging from electricity, gas, and water 00:06:46,600 --> 00:06:55,410
distribution to the railroads and even cable TV. Well think about this. Under the P equals AC rule,
you're basically guaranteed the recovery of any
57 costs that you incur.
00:06:10,120 --> 00:06:14,280
One of the favorite clichés of economics is that 66
“there is no free lunch.” 00:06:55,410 --> 00:07:02,340
In fact that's why this type of regulation is known
58 as cost plus pricing. So, do you see the problem?
00:06:14,370 --> 00:06:19,480
And it is briefly worth pointing out how 67
a reliance on the Price equals average cost rule 00:07:03,130 --> 00:07:08,640
PAUSE the presentation now to think about that
59 for just a minute and jot down some ideas.
00:06:19,480 --> 00:06:19,880
in regulated industries may not be as cool a 68
solution as it is made out to be. 00:07:13,210 --> 00:07:19,840
And it is briefly worth pointing out how Well, under cost plus pricing, regulated industries
a reliance on the Price equals average cost rule no longer have the incentive to minimize cost

60 69
00:06:19,880 --> 00:06:25,120 00:07:19,840 --> 00:07:26,490
in regulated industries may not be as cool a and therefore maximize profits.
solution as it is made out to be. Instead, there is what economists call a “perverse
incentive” –
61
00:06:25,120 --> 00:06:31,260 70
The problem is what the Harvard economist 00:07:26,490 --> 00:07:33,820
Harvey Liebenstein dubbed long ago “X-efficiency” that’s another Key Term -- to increase cost for the
-- benefit of the executives operating the firm.

62 71

© Peter Navarro MICROECONOMICS

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 00:07:33,820 --> 00:07:39,880 80
For example, the X-inefficiency theory predicts that 00:08:34,930 --> 00:08:45,650
executives in regulated industries It just means that firms will tend to operate well
above
72 their potential ATC if X-inefficiency is indeed
00:07:39,880 --> 00:07:44,770 present.
will tend to hire more staff, buy thicker carpets,
build larger offices, 81
00:08:46,370 --> 00:08:52,500
73 Now here's the punchline. In some cases, it may
00:07:44,770 --> 00:07:52,090 well be that any increase in allocative efficiency
and engage in more business travel
than they otherwise would under strict profit 82
maximization. 00:08:52,500 --> 00:08:59,580
achieved by regulating a monopolist may be more
74 than offset by an increase in X-inefficiency
00:07:52,640 --> 00:07:58,520
In such a case, what do you think such behavior 83
would do 00:08:59,580 --> 00:09:07,040
to the observed average total cost curve due to cost-plus pricing! And that’s a fine example
of irony for Webster's dictionary.
75
00:07:58,520 --> 00:08:01,790 84
and the regulated price in this figure? 00:09:07,040 --> 00:09:12,010
The point here is that the appropriate public policy
76 response to monopoly
00:08:01,790 --> 00:08:07,300
AND here’s the tough question: how would you 85
actually measure X-efficiency? 00:09:12,010 --> 00:09:14,890
is not as straightforward as it may seem.
77
00:08:07,940 --> 00:08:12,110 86
Please PAUSE the presentation now to draw and 00:09:14,890 --> 00:09:21,750
jot down your answers. And here’s just one more reason why this may be
so
78 offered up by yet another Harvard economist,
00:08:17,950 --> 00:08:28,150
That's right, the perverse incentives of price 87
regulation would raise 00:09:21,750 --> 00:09:24,850
the average total cost curve and lead to a higher the renowned Joseph Schumpeter.
regulated price.
88
79 00:09:30,480 --> 00:09:36,410
00:08:28,150 --> 00:08:34,930 If you want to create controversy as an economist,
And you can see in the figure that the just raise a toast to the benefits of monopoly
shaded rectangle is precisely the measure of X=
inefficiency. 89
00:09:36,410 --> 00:09:38,770

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.
 and tell the government to back off. 98
00:10:32,670 --> 00:10:39,210
90 to engage in longer term strategic activities, such
00:09:38,770 --> 00:09:45,000 as research and development.
That’s essentially what Harvard’s Joseph
Schumpeter 99
did when he introduced the idea that the gains 00:10:39,350 --> 00:10:43,790
from At the same time, the monopolists will also have a
much bigger cash fund
91
00:09:45,000 --> 00:09:52,770 100
dynamic efficiency due to monopoly would more 00:10:43,790 --> 00:10:48,370
than offset any losses from allocative inefficiency. with which to make investments to speed the
diffusion of the technology.
92
00:09:52,900 --> 00:09:56,080 101
So just what is dynamic efficiency? 00:10:49,170 --> 00:10:53,930
Of course, the counterargument to Schumpeter is
93 equally interesting.
00:09:56,080 --> 00:10:05,020
In this Key Definition, dynamic efficiency 102
measures 00:10:53,930 --> 00:10:57,570
the rate of technological change and innovation in For example, while the monopolist may have deep
an industry. pockets

94 103
00:10:05,020 --> 00:10:13,780 00:10:57,570 --> 00:11:02,240
And obviously, the faster this rate, to spend on developing new technologies, that
the better the industry will perform, and the faster very same monopolist
the economy will grow.
104
95 00:11:02,240 --> 00:11:08,240
00:10:14,100 --> 00:10:19,910 has little incentive in the absence of other
Schumpeter argued that monopolies would lead competitors to introduce the technology.
to higher rates of dynamic efficiency
105
96 00:11:08,240 --> 00:11:12,340
00:10:19,910 --> 00:10:27,170 So technological progress is actually slowed.
precisely because monopolists are likely to earn a
much higher 106
level of economic profit than competitive 00:11:12,340 --> 00:11:18,970
industries. Now the poster child for this particular problem
is the old telephone monopoly in America called
97 AT&T.
00:10:27,660 --> 00:10:32,670
These profits will, in turn, give the monopolists 107
much deeper pockets 00:11:18,970 --> 00:11:22,550
And the classic example, is the touchtone phone.

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 more complex beast, that of monopolistic
108 competition.
00:11:22,550 --> 00:11:29,880
In fact, AT&T actually invented the touchtone
phone
in its research facilities known as Bell
Laboratories.

109
00:11:29,880 --> 00:11:33,980
BUT this particular monopolist would wait years
and years

110
00:11:33,980 --> 00:11:34,190
before ever bothering to introduce the touchtone
phone to the market,
precisely because it faced no competition.
BUT this particular monopolist would wait years
and years

111
00:11:34,190 --> 00:11:42,410
before ever bothering to introduce the touchtone
phone to the market,
precisely because it faced no competition.

112
00:11:42,410 --> 00:11:49,290
At any rate, suffice it to say that we can't settle
this debate
over the benefits and costs of monopoly here.

113
00:11:49,880 --> 00:11:54,590
BUT the debate does provide us
with yet an additional layer of complexity

114
00:11:54,590 --> 00:12:00,430
to help us think through the public policy
and business implications of economic theory.

115
00:12:00,430 --> 00:12:10,330
With that said, let's turn in our next module to an
even

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 Lesson 6 9
00:01:02,960 --> 00:01:08,200
Module 4 - Monopolistic and then we will go on to the mother lode of
business strategy in the next lesson,
Competition; Product Differentiation
10
1 00:01:08,200 --> 00:01:13,130
00:00:13,370 --> 00:00:17,540 when we go over the in and outs, and ups and
Well, so far we know that perfect competition downs of oligopoly.
rarely exists in the real world,
11
2 00:01:18,060 --> 00:01:24,560
00:00:17,540 --> 00:00:26,340 Here’s a fun fact for you: Monopolistic competition
and pure monopoly is a form of market structure is one of the most prevalent market structures
that,
while important, only fits the profile of a few key 12
industries in any economy. 00:01:24,560 --> 00:01:31,070
in any industrialized economy –
3 from Europe and South America to the Asia
00:00:26,340 --> 00:00:31,220 Pacific.
So what about the many industries that lay
between these two polar cases? 13
00:01:31,070 --> 00:01:36,600
4 From mattresses to men's suits, from book
00:00:31,220 --> 00:00:40,480 publishing to paperboard boxes,
In fact, there are two more possibilities,
each with their own set of unique characteristics 14
and strategic and policy implications. 00:01:36,600 --> 00:01:42,710
and from upholstered furniture to fur goods --
5 all of these industries are monopolistically
00:00:40,480 --> 00:00:47,650 competitive
These include monopolistic competition
on the one hand and oligopoly on the other hand. 15
00:01:42,710 --> 00:01:48,920
6 just as are the industries producing the several
00:00:48,120 --> 00:00:54,430 hundred magazines on newsstands and websites,
Note that in the figure, the defining difference
between these four types of market structures 16
00:01:48,920 --> 00:01:56,720
7 the 50 or so competing brands of personal
00:00:54,430 --> 00:00:57,910 computers and tablets,
is the number of firms in the industry. and the ever-evolving circus of the cell phone
market.
8
00:00:57,910 --> 00:01:02,960 17
So let’s tackle the case of monopolistic 00:01:57,760 --> 00:02:04,730
competition in the rest of this lesson And then, of course, there are the numerous
brands of gasoline

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 that can be found at the four corners of many 27
intersections. 00:02:49,760 --> 00:02:56,340
In fact, it is precisely these two characteristics –
18 numerous sellers and easy entry and exit --
00:02:05,050 --> 00:02:10,280
And the several grocery stores in a neighborhood, 28
all carrying the same products, 00:02:56,340 --> 00:03:02,370
that drive the “competition” part of monopolistic
19 competition.
00:02:10,280 --> 00:02:14,700
but competing on the basis of location and brand 29
names. 00:03:02,370 --> 00:03:07,950
As for the third characteristic, this is where the
20 monopoly element enters the equation,
00:02:14,700 --> 00:02:19,000
So just what exactly drives this market structure? 30
00:03:07,950 --> 00:03:13,170
21 and this third characteristic is known as “product
00:02:19,000 --> 00:02:24,290 differentiation.”
And if you are a business executive in a
monopolistically competitive industry, 31
00:03:19,970 --> 00:03:24,690
22 In our previous discussion of perfect competition,
00:02:24,290 --> 00:02:29,960 one of our key assumptions
how does this fact of market structure life affect
your strategy and tactics? 32
00:03:24,690 --> 00:03:29,650
23 was that of a standardized or homogenous
00:02:29,960 --> 00:02:33,130 product sold by the industry.
Perhaps the best way to get to the bottom of
these questions, 33
00:03:29,650 --> 00:03:38,600
24 Under this assumption, consumers will have no
00:02:33,130 --> 00:02:39,680 basis other than price alone,
is to start by noting the three for preferring one firm’s product over the product
defining characteristics of monopolistic of another's.
competition.
34
25 00:03:38,600 --> 00:03:42,530
00:02:39,680 --> 00:02:44,010 And in this case, price competition is the norm.
The first, of course, is a relatively large number of
sellers. 35
00:03:42,530 --> 00:03:48,250
26 In contrast – and here’s your next Key Definition –
00:02:44,010 --> 00:02:49,070 with product differentiation,
But secondly, there is also easy entry and exit
from the industry. 36
00:03:48,250 --> 00:03:54,630

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 monopolistically competitive producers turn out 00:04:42,350 --> 00:04:48,250
many variations of a particular product. And of course, this is where business strategy
comes into the production and marketing picture
37
00:03:54,630 --> 00:03:59,970 47
Toothpaste isn’t toothpaste. It’s red, green, or 00:04:48,250 --> 00:04:52,860
clear. because there are, in fact, many different ways
you as a business executive
38
00:03:59,970 --> 00:04:02,430 48
Floridated or bleaching? 00:04:52,860 --> 00:05:00,870
can go about trying to differentiate your product –
39 and thereby gain competitive advantage over your
00:04:02,430 --> 00:04:04,190 rivals.
Minty or sweet?
49
40 00:05:01,490 --> 00:05:06,120
00:04:04,190 --> 00:04:06,600 Before we lay these various ways down on the
And so it goes. analytical table, however,

41 50
00:04:07,270 --> 00:04:12,600 00:05:06,120 --> 00:05:13,160
And because of such product differentiation, why don’t you try writing down some of the
consumers have reasons other than price categories you think
may exist for forms of product differentiation?
42
00:04:12,600 --> 00:04:17,660 51
to prefer one product over another. And that’s are 00:05:13,160 --> 00:05:19,130
next Key Concept. So please, pause the presentation now and
ponder this a bit and jot down some of your ideas.
43
00:04:17,660 --> 00:04:27,800 52
In a monopolistically competitive industry with 00:05:30,690 --> 00:05:36,610
differentiated products, Okay. Here’s the list that I came up with for the
economic rivalry takes the form of non-price many and varied ways a firm can differentiate its
competition. product.

44 53
00:04:30,650 --> 00:04:34,650 00:05:36,610 --> 00:05:47,580
That’s a very key term: Non-price competition. These range from physical characteristics, product
quality,
45 and conditions of sale and service to location,
00:04:34,650 --> 00:04:42,350 advertising, and even packaging.
With non-price competition, competition comes
primarily 54
in the way that firms differentiate their products. 00:05:47,980 --> 00:05:55,170
In other words, these ways to differentiate
46

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 a product range from the substantive to the 64
merely cosmetic. 00:06:36,590 --> 00:06:41,840
That’s mostly engineering with a healthy dash of
55 design thrown in.
00:05:55,170 --> 00:05:55,180
So let’s now go over them one at a time. 65
In other words, these ways to differentiate 00:06:41,840 --> 00:06:46,810
a product range from the substantive to the At the low tech end of the spectrum, there is also
merely cosmetic. the typical fast food burger joint.

56 66
00:05:55,180 --> 00:05:59,880 00:06:48,070 --> 00:06:53,020
So let’s now go over them one at a time. Here the product can be differentiated by the
leanness of the beef, the size of the bun,
57
00:06:02,340 --> 00:06:07,090 67
As a business executive, one of the decisions you 00:06:53,020 --> 00:06:59,530
are going to have to focus on, whether it is broiled or fried, and even how fast
you are served.
58
00:06:07,090 --> 00:06:13,890 68
is where to position your product in the market 00:06:59,530 --> 00:07:05,850
and often this has a lot to do with the physical In between, we have plain old aspirin enhanced by
characteristics buffered compounds to prevent stomach aches --

59 69
00:06:13,890 --> 00:06:19,240 00:07:05,850 --> 00:07:08,690
and actual product quality, you and your or caffeine, to keep you awake.
engineering team want to strive for.
70
60 00:07:08,870 --> 00:07:13,500
00:06:19,240 --> 00:06:22,900 Detergents may be specially, formulated for use in
Take, for example, personal computers or tablets. cold, or hard water.

61 71
00:06:22,900 --> 00:06:28,960 00:07:13,500 --> 00:07:18,420
These differ on hardware capacity, And beer, may have less alcohol, or more malt.
the size of the random access memory,
72
62 00:07:18,420 --> 00:07:26,870
00:06:28,960 --> 00:06:33,250 Moreover, when it comes to durable goods like
the graphics and graphics engine and card, the automobiles,
speed of the processor, different brands can differ in hundreds, if not
thousands of ways--
63
00:06:33,250 --> 00:06:36,590 73
and even the user interface and operating system. 00:07:27,140 --> 00:07:32,600

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 from styling, and horsepower to airbags, gas stores are able to compete with the big grocery
mileage, and stereo systems. marts?

74 83
00:07:32,600 --> 00:07:41,400 00:08:35,400 --> 00:08:40,380
Indeed a rose may be a rose may be a rose, Even though they offer both far fewer choices and
BUT a Ford Explorer is not a BMW is not a Prius. higher prices?

75 84
00:07:46,070 --> 00:07:49,370 00:08:40,470 --> 00:08:50,100
Beyond physical characteristics and product Well, it’s all about location and accessibility –
quality, they are closer to at least some customers and
stay open 24 hours a day.
76
00:07:49,440 --> 00:07:54,470 85
products may also be differentiated by the 00:08:50,470 --> 00:08:55,810
amount of service and the conditions of sale. And how about that gas station off a busy freeway
exit or traffic intersection?
77
00:07:55,110 --> 00:08:00,200 86
For example, one auto dealer might offer low 00:08:55,810 --> 00:09:01,940
interest financing and free service It can charge more than a gas station a few miles
a way
78 because it, too, is simply more convenient .
00:08:00,340 --> 00:08:03,800
while another might feature multiyear warranties. 87
00:09:01,940 --> 00:09:05,670
79 And as they say, time is money.
00:08:04,120 --> 00:08:09,230
One grocery store may stress the helpfulness of 88
the clerks that bag your groceries 00:09:09,130 --> 00:09:16,720
While product quality, conditions of sale, and
80 location,
00:08:09,230 --> 00:08:16,320 are all important sources of product differentiation
while a “Big Box” warehouse may leave the
bagging 89
and carrying to you but offer lower prices. 00:09:16,720 --> 00:09:22,350
based on very real differences between products,
81 such is not always the case
00:08:16,320 --> 00:08:25,290
And one pizza restaurant may tout its fast delivery 90
while another trumpets its fat mushrooms and 00:09:22,350 --> 00:09:25,270
thick crust. with the fourth major source, of product
differentiation:
82
00:08:28,200 --> 00:08:35,400 91
Did you ever wonder how small mini-groceries and 00:09:26,290 --> 00:09:32,030
convenience

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 I am talking here about advertising and packaging when it comes to pushing products out the door
and the use of brand names and trademarks. and pushing up the bottom line.

92 101
00:09:32,030 --> 00:09:36,900 00:10:20,660 --> 00:10:24,870
For example, while there are many aspirin-type So what’s really going on here from the
products, economist’s point of view?

93 102
00:09:36,900 --> 00:09:42,700 00:10:24,870 --> 00:10:34,300
the marketing wonks may be able to convince Well, here is perhaps the most important Key
consumers through their clever marketing Concept of this lesson.
campaigns, Are you ready for this secret of business life?

94 103
00:09:42,700 --> 00:09:47,890 00:10:39,980 --> 00:10:48,780
that a branded product like Anacin or Bayer or From the economist’s point of view, product
Excedrin is superior, differentiation in general,
and advertising in particular, have two main goals:
95
00:09:47,890 --> 00:09:52,650 104
and therefore worth a higher price than a generic 00:10:48,780 --> 00:10:55,900
substitute. increase consumer demand and decrease the
price elasticity of demand.
96
00:09:52,740 --> 00:09:58,430 105
And how about those celebrities that 00:10:55,900 --> 00:11:03,280
lend their names to products like jeans or Let me repeat that because if you want to have a
perfume? career
in marketing in particular, this is a really Key
97 Concept:
00:09:58,430 --> 00:10:00,430
Do you buy into that? 106
00:11:03,280 --> 00:11:09,320
98 Product differentiation in general, and advertising
00:10:00,520 --> 00:10:09,020 in particular, have two goals:
Or the auto or tobacco companies that associate
their products with the ultimate marketing tool – 107
sex. 00:11:09,630 --> 00:11:16,160
Increase consumer demand and decrease the
99 price elasticity of demand.
00:10:09,020 --> 00:10:14,960
These are often very fake differences in products 108
but they have very real business impacts 00:11:16,430 --> 00:11:23,850
Let me show you what I mean with this figure,
100 which depicts the individual firm's demand curve,
00:10:14,960 --> 00:10:20,660 in monopolistic competition.

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 109
00:11:24,600 --> 00:11:28,430 118
We can see here that the first goal of product 00:12:16,570 --> 00:12:20,440
differentiation the holy grail of “brand loyalty.”

110 119
00:11:28,430 --> 00:11:34,520 00:12:20,440 --> 00:12:23,800
is indeed is to increase consumer demand That’s a Key Term in business so please
and thereby shift the firm's demand curve remember it –
outwards.
120
111 00:12:23,940 --> 00:12:29,410
00:11:34,520 --> 00:11:43,490 and the way firms create brand loyalty is through
In this way, the most clever firms to differentiate long term advertising campaigns
their products through
advertising and marketing will increase their 121
market share. 00:12:29,410 --> 00:12:34,650
that over time create a stronger preference for the
112 firm's product.
00:11:43,490 --> 00:11:45,720
And as we shall soon see, 122
00:12:34,780 --> 00:12:41,210
113 So just why is making the demand for its product
00:11:45,850 --> 00:11:53,370 more inelastic so important to a firm?
by increasing market share,
a monopolistically competitive firm can also 123
increase its profits. 00:12:41,210 --> 00:12:47,760
Simply because this opens up the magic door to
114 several kinds of strategic opportunities.
00:11:54,070 --> 00:12:00,030
In many ways, however, the real payoff lies in Goal 124
Two of product differentiation, 00:12:53,230 --> 00:12:59,190
In the first important dimension of strategy,
115 as soon as the monopolistically competitive firm
00:12:00,030 --> 00:12:06,300
which is to DECREASE the price elasticity of the 125
demand curve for the firm’s product– 00:12:59,190 --> 00:13:05,280
is able to make the demand for its product more
116 inelastic through product differentiation,
00:12:06,300 --> 00:12:08,120
as illustrated here. 126
00:13:05,280 --> 00:13:10,960
117 it moves from a mere price taker in the market to
00:12:08,380 --> 00:12:16,570 an actual price maker --
And, of course, one of the ways this goal can be
achieved is 127
by creating what marketing departments in any 00:13:10,960 --> 00:13:19,050
firm treasure –

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 albeit with far less flexibility than a pure take a few minutes to jot down a few of the
monopolist. products that you, yourself,
And then, by being able to exert some market
power, 137
00:14:06,750 --> 00:14:09,800
128 exhibit the most brand loyalty to.
00:13:19,050 --> 00:13:22,870
the firm can increase its profits. 138
00:14:09,890 --> 00:14:15,520
129 And then analyze exactly why you are so loyal to
00:13:23,000 --> 00:13:28,640 those brands.
As a second important dimension of strategy, with
a now more inelastic product, 139
00:14:15,520 --> 00:14:21,220
130 Is it because of engineering or design qualities
00:13:28,640 --> 00:13:32,650 that are particular to that brand –
the firm can also engage in more non-price
competition – 140
00:14:21,220 --> 00:14:28,780
131 or is it because of some type of warm and fuzzy
00:13:32,650 --> 00:13:38,250 association you have with the product created
always a good weapon to be able to wield as through advertising?
market conditions change.
141
132 00:14:28,780 --> 00:14:35,370
00:13:38,380 --> 00:13:42,230 Based on this cold-hearted analysis, do you want
So the bottom line here is simply that product to rethink any of those brand loyalties.
differentiation is
142
133 00:14:35,370 --> 00:14:41,710
00:13:42,230 --> 00:13:46,780 To put this another way, have you been duped by
an important tool to enhance the bottom line for some clever advertising campaign?
any firm –
143
134 00:14:41,710 --> 00:14:48,510
00:13:46,780 --> 00:13:52,700 OR are your brand loyalties all based on real
and it is in this dimension that many of the product differences that you value?
fiercest corporate wars are fought,
144
135 00:14:48,510 --> 00:14:51,490
00:13:52,700 --> 00:13:56,650 Of course the point of this exercise is this:
precisely because the microeconomic stakes are
so high. 145
00:14:51,630 --> 00:14:57,310
136 Know thyself and this will often help you know
00:14:00,500 --> 00:14:06,750 your customers better.
Now, to finish up this module,

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 Lesson 6 9
00:00:54,730 --> 00:00:59,610
Module 5 - Market Conduct Under What say you here? Please PAUSE the
presentation now to make your prediction
Monopolistic Competition
10
1 00:00:59,610 --> 00:01:03,700
00:00:13,600 --> 00:00:19,480 about firm conduct under monopolistic
To begin this module, let’s remember that our competition.
guiding light is
the Structure- Conduct -Performance paradigm. 11
00:01:07,160 --> 00:01:10,660
2 Collude or compete? That is the question.
00:00:19,480 --> 00:00:26,620
So at this point in our analysis of 12
monopolistically competitive firms, we want to 00:01:10,660 --> 00:01:17,920
ask the question: And I think it is pretty easy to rule out the
prospect of any collusion
3 among firms in a monopolistically competitive
00:00:26,620 --> 00:00:29,490 industry,
How are they likely to behave?
13
4 00:01:17,920 --> 00:01:20,880
00:00:29,660 --> 00:00:33,500 and this is for at least two reasons.
On the one hand, will the many individual firms
operate independently 14
00:01:20,880 --> 00:01:27,140
5 First, by definition there is a very large number
00:00:33,500 --> 00:00:36,290 of firms in the industry. That, in and of itself,
and compete fiercely against each other –
15
6 00:01:27,140 --> 00:01:30,220
00:00:36,290 --> 00:00:41,550 makes collusion very difficult.
and likely as an industry give society a
reasonably efficient performance? 16
00:01:30,220 --> 00:01:35,640
7 Second – and this brings us back to one of the
00:00:41,590 --> 00:00:48,430 major assumptions of monopolistic competition
Or, alternatively, will these myriad firms attempt --
to collude amongst each other
17
8 00:01:35,640 --> 00:01:41,270
00:00:48,430 --> 00:00:54,730 even if the large number of the firms in an
and try to do things like fix prices to maximize industry
their profits as an industry and group? were to successfully collude and set higher
prices,

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 26
18 00:02:41,170 --> 00:02:48,010
00:01:41,270 --> 00:01:49,910 In the short run, monopolistic competitors may
they still would not be able to stop a flood of very well earn monopoly profits under certain
new firms from circumstances.
entering the market to take advantage of any
collusive monopoly pricing. 27
00:02:48,800 --> 00:02:58,100
19 However, in long run equilibrium, economic
00:01:50,910 --> 00:01:58,080 profits in the industry
Remember: By assumption, entry into a will be driven to zero just as in perfect
monopolistically competitive industry is easy. competition.

20 28
00:01:58,080 --> 00:02:05,380 00:02:58,100 --> 00:03:03,230
So, it is for these two reasons, we want to That said, there is nonetheless a very important
introduce a difference between perfect competition
Key Term often used to describe monopolistic
competition. 29
00:03:03,230 --> 00:03:06,070
21 and monopolistic competition in the long run --
00:02:05,380 --> 00:02:09,680
That Key Term is “non-collusive oligopoly.” 30
00:03:06,070 --> 00:03:08,530
22 and it is simply this:
00:02:09,680 --> 00:02:19,020
And as we shall see in our next lesson, 31
market conduct is very, very different in the 00:03:08,650 --> 00:03:16,950
presence versus absence of collusion. Under monopolistic competition, price will be
above
23 marginal cost and thus lead to a dead weight
00:02:19,020 --> 00:02:27,070 efficiency loss.
So just what kind of conduct – and by
implication market performance -- 32
can we expect with a non-collusive oligopoly? 00:03:17,040 --> 00:03:19,910
That’s a very Key Point, and to see this,
24
00:02:32,870 --> 00:02:36,540 33
In the case of non-collusive monopolistic 00:03:19,910 --> 00:03:26,590
oligopoly, let's illustrate the short and long run
implications
25 of monopolistic competition for market
00:02:36,540 --> 00:02:41,170 performance
here's what we can expect in terms of market
conduct and performance. 34
00:03:26,590 --> 00:03:30,930

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 with an historical example from the personal
computer industry 43
00:04:28,150 --> 00:04:33,030
35 and set price where marginal revenue equals
00:03:30,930 --> 00:03:36,140 marginal cost.
and the legends of Apple’s Steve Jobs and
Steve Wozniak. 44
00:04:33,030 --> 00:04:39,580
36 And that means price will be set a P-two and the
00:03:36,140 --> 00:03:42,810 firm will produce a quantity of Q-two.
These two self-professed geeks –
and now giants in the history of the 45
development of the personal computer -- 00:04:40,160 --> 00:04:48,630
As a result, economic profits are equal to the
37 rectangle P-one, P-two, G, B.
00:03:42,810 --> 00:03:48,820
started off in their garage making what turned 46
out to be the Apple 1 computer. 00:04:51,210 --> 00:04:58,180
Now, what do you think will happen in the
38 longer
00:03:48,820 --> 00:03:56,700 run to this monopolistically competitive
And this figure illustrates the situation facing industry?
these entrepreneurs
in the early years of the personal computer 47
industry. 00:04:58,180 --> 00:05:04,060
Well, with the lure of large economic profits,
39 firms will rapidly enter the industry.
00:03:56,700 --> 00:04:05,880
At this time, there were numerous sellers, 48
but in this short run, there were also lucrative 00:05:04,390 --> 00:05:12,240
profits still to be had. As illustrated in this figure, this causes
the typical seller’s original profitable demand
40 curve D-one
00:04:05,880 --> 00:04:13,430
So what's the price and quantity in this industry, 49
and what are the economic profits? 00:05:12,240 --> 00:05:17,320
to shift inward to D-two and the price will fall.
41
00:04:13,430 --> 00:04:16,640 50
Please PAUSE the presentation now to figure 00:05:17,910 --> 00:05:25,370
this out. So here is your next question:
At what point will entry into this monopolistically
42 competitive industry cease?
00:04:23,650 --> 00:04:28,150
So what’s the answer? Well, the firm will use 51
the profit-maximizing rule 00:05:25,670 --> 00:05:31,090

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 Please PAUSE the presentation now as you
ponder and then answer this question. 60
00:06:33,360 --> 00:06:37,740
52 is neither allocatively nor productively efficient.
00:05:36,010 --> 00:05:44,020
So just when will entry into the market cease? 61
Only after each seller has been forced, into a 00:06:37,950 --> 00:06:43,870
long run, To put this another way, monopolistic
competition leads to an under-allocation of
53 resources
00:05:44,020 --> 00:05:52,860
no profit tangency, such as at G prime where 62
the seller’s demand curve is tangent to the AC 00:06:43,870 --> 00:06:49,370
curve. because the product price actually exceeds
marginal cost.
54
00:05:53,150 --> 00:05:56,990 63
Now here's something even more interesting. 00:06:49,500 --> 00:06:56,880
As you can see in this figure, At the same time, productive efficiency is not
realized because production occurs at point G
55 prime
00:05:57,570 --> 00:06:02,790
in the long run, equilibrium price will remain 64
above marginal cost. 00:06:56,880 --> 00:07:02,970
where the average total cost actually exceeds
56 the minimum attainable cost at point A.
00:06:03,660 --> 00:06:13,090
Note also in the figure, that each producer is on 65
the left hand, 00:07:11,270 --> 00:07:17,860
declining branch of its long running average As a final note on monopolistic competition,
cost curve. this is a form of market structure that is, in fact,

57 66
00:06:13,090 --> 00:06:16,970 00:07:17,860 --> 00:07:25,540
What do you think this configuration means for the mother’s milk of advertising and marketing.
market performance? After all, here we have literally thousands of
industries
58
00:06:17,260 --> 00:06:21,510 67
Please PAUSE the presentation now to think 00:07:25,540 --> 00:07:32,460
about this. that are relentlessly driven by market forces
to engage primarily in non-price competition
59
00:06:27,310 --> 00:06:33,360 68
Well, what this situation means is this: In the 00:07:32,460 --> 00:07:37,760
long run, monopolistic competition

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 to differentiate their products. In fact, if you are to Count Chocula, Captain Crunch, and Frosted
in the field of marketing, Flakes.

69 77
00:07:37,760 --> 00:07:42,180 00:08:27,350 --> 00:08:34,940
you will likely owe your job to this Or how about the lipstick counter at any
microeconomic phenomenon. department store
where there are a hundred different shades of
70 pink.
00:07:43,090 --> 00:07:45,810
However, from society’s point of view, 78
00:08:34,940 --> 00:08:37,610
71 And how do you rationalize from a social point
00:07:45,810 --> 00:07:50,520 of view
many economists have argued that
monopolistic competition merely results 79
00:08:37,610 --> 00:08:45,200
72 having a different fancy brand of gasoline is
00:07:50,520 --> 00:08:00,320 gasoline is gasoline
in needless brand proliferation and excessive at each of the four corners of many
advertising – intersections?
with “brand proliferation” being a Key Term to
take note of. 80
00:08:45,200 --> 00:08:52,040
73 Here, while it is true that reducing the number
00:08:00,990 --> 00:08:07,990 of monopolistic competitors through
To see this problem of brand proliferation, government regulation
you need look no further than the cereal aisle at
your local supermarket 81
00:08:52,040 --> 00:08:58,420
74 might well cut the costs to society, using the
00:08:07,990 --> 00:08:13,750 government’s foot of public policy
where simple commodities like oats and wheat
and sugar and chocolate are transformed into a 82
dizzying 00:08:58,420 --> 00:09:03,380
to interfere with the market’s invisible hand
75 might also well end up
00:08:13,750 --> 00:08:18,210
and often dazzling proliferation of competing 83
brands – 00:09:03,380 --> 00:09:09,810
lowering, consumer welfare because it would
76 reduce the diversity of available goods and
00:08:18,210 --> 00:08:27,350 services.
from Apple-Cinnamon Cheerios, Honey Nut
Cheerios, and Whole Grain Cheerios, 84
00:09:09,810 --> 00:09:15,140

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 And to bolster this particular argument, 93
economists need point no further 00:10:04,070 --> 00:10:09,780
This brief introduction will serve as a perfect
85 prelude to our next lesson about oligopoly
00:09:15,140 --> 00:09:22,280
than to the invariably failed experiments with 94
socialist and communist economies around the 00:10:09,780 --> 00:10:21,590
world – and game theory which are central to the theory
and practice of management strategy.
86
00:09:22,280 --> 00:09:26,910
regimes like the old Soviet Union which tried to
standardize output

87
00:09:26,910 --> 00:09:33,910
on a small number of varieties and in the
process left consumers highly unsatisfied.

88
00:09:33,910 --> 00:09:39,710
Of course, we will not settle this debate over
excessive advertising and brand proliferation
here –

89
00:09:39,710 --> 00:09:46,680
and if you are planning a career in marketing
and advertising your future is likely secure from
the threat

90
00:09:46,680 --> 00:09:51,930
of any government crackdown on brand
proliferators or excessive advertisers.

91
00:09:51,930 --> 00:09:57,310
Instead, I will simply end this lesson in our next
module with a brief introduction

92
00:09:57,310 --> 00:10:04,070
to one of the most exciting subjects in business
education – the field of management strategy.

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 Lesson 6 In Step One, strategic analysis must invariably
begin with goal selection.
Module 6 - An Introduction to
10
Management Strategy 00:00:58,910 --> 00:01:03,900
The big question here, of course, is: What
1 business should your company be in?
00:00:13,440 --> 00:00:17,880
Okay. Here is my favorite saying when it comes to 11
the field of management strategy: 00:01:03,900 --> 00:01:08,320
One of the most interesting distinctions in Step
2 One is between the “market driven”
00:00:18,620 --> 00:00:23,500
“Not having a strategy IS a strategy – and a very 12
bad strategy indeed.” 00:01:08,920 --> 00:01:15,920
versus “organization-driven” perspectives used to
3 determine just what business your firm should be
00:00:23,500 --> 00:00:28,460 in.
In fact, I dare say many of us go through our lives
without any strategy at all. 13
00:01:15,920 --> 00:01:22,760
4 From the market-driven perspective, the goal of
00:00:28,460 --> 00:00:33,340 the firm should be determined simply by market
And while sometimes one might wind up opportunities –
succeeding purely on instinct,
14
5 00:01:22,760 --> 00:01:27,680
00:00:33,340 --> 00:00:36,220 BUT this can get a firm into trouble when it tries to
it is usually better to have a strategy to follow – jump into a market

6 15
00:00:36,220 --> 00:00:43,060 00:01:27,680 --> 00:01:31,190
whether in business or your personal life. that it really does not have the skill set to succeed
So just what does it means to have a strategy? in.

7 16
00:00:43,060 --> 00:00:48,610 00:01:31,190 --> 00:01:36,060
Well, at least in business, this chart here provides On the other hand, the organization-driven
a pretty good overview perspective is based on the view

8 17
00:00:48,610 --> 00:00:53,440 00:01:36,060 --> 00:01:43,120
of the Big Questions and Key Concepts of the field that an organization should only dive into
of Management Strategy. businesses that will leverage the company’s
unique skills and,
9
00:00:53,440 --> 00:00:58,910 18
00:01:43,120 --> 00:01:48,290

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 in a Key Term here, the organization’s so-called
“core competencies.” 28
00:02:47,810 --> 00:02:52,690
19 The overarching goal of these external and
00:01:48,290 --> 00:01:56,460 internal analyses is to determine
But this organization-driven approach can get a
firm into trouble as well if there is little demand 29
00:02:52,690 --> 00:03:00,860
20 whether your goals and strategies are actually
00:01:56,460 --> 00:01:58,340 feasible on the particular chess board your
for the things the company is able to do best. organization is playing on.

21 30
00:01:58,340 --> 00:02:04,880 00:03:00,860 --> 00:03:09,410
That is, the firm’s core competencies may prove to In Step Three, this is where the strategic rubber
be an awful fit for the actual market place … begins to actually meet the profit-driven road.

22 31
00:02:04,880 --> 00:02:13,940 00:03:09,410 --> 00:03:13,540
Hey, we can make really good land line phones in Here, you must figure out which factors should be
an increasingly cell phone world. Not a recipe for emphasized
success.
32
23 00:03:13,540 --> 00:03:17,590
00:02:13,940 --> 00:02:19,030 to achieve a market performance superior to your
At any rate, once an organization decides what competitors.
business it will be in,
33
24 00:03:17,590 --> 00:03:24,340
00:02:19,030 --> 00:02:26,190 The Key Idea here is to learn the important
it must then move on to Step Two and both an difference between at least two types of
external analysis and an internal analysis. competitive advantage:

25 34
00:02:26,540 --> 00:02:36,460 00:03:24,340 --> 00:03:29,970
Here, the external analysis looks not just at your One: The advantage to be gained by being the low
current and prospective customers but also your cost producer or provider –
suppliers, competitors, and partners.
35
26 00:03:29,970 --> 00:03:38,900
00:02:36,460 --> 00:02:43,470 that’s the cost advantage and it is an area where
At the same time, the internal analysis seeks to your microeconomic knowledge of production
examine your firm’s structure at the same time theory comes into play. AND

27 36
00:02:43,470 --> 00:02:47,810 00:03:38,900 --> 00:03:48,580
that it assesses firm performance, abilities and
resources.

© Peter Navarro MICROECONOMICS

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 Two: The advantage to be gained through product How do you design the organization to conform to
differentiation, which you have just learned about your company’s overall strategy?
in this lesson.
46
37 00:04:55,890 --> 00:05:03,530
00:03:54,460 --> 00:04:00,500 And how do you delegate authority to employees
Once you have set your goals, performed your and provide incentives to implement the strategy?
external and internal analyses, and determined
your competitive advantage, 47
00:05:11,070 --> 00:05:16,200
38 In many ways, management strategy is one of the
00:04:00,500 --> 00:04:07,140 most exciting and important areas of business –
it’s time for Step Four – the critical task of
designing your competitive strategy. 48
00:05:16,200 --> 00:05:23,050
39 but particularly in smaller firms, strategy is often
00:04:07,140 --> 00:04:09,970 executed from the gut rather than the brain –
This entails answering Big Questions like:
49
40 00:05:23,050 --> 00:05:26,380
00:04:09,970 --> 00:04:21,390 and often with disastrous results.
How do you devise a competitive strategy that
anticipates rival strategies and how do you choose 50
actions to outperform rival firms? 00:05:26,380 --> 00:05:30,210
In this, our concluding module of this lesson,
41
00:04:21,390 --> 00:04:29,870 51
Which markets should be contested or conceded? 00:05:30,210 --> 00:05:35,890
And when should new products be announced or I’ve given you just a small taste of a field that can
prices changed? bring an important framework to the way you think
about
42
00:04:29,870 --> 00:04:38,580 52
Finally, in Step Five, you must undertake a step 00:05:35,890 --> 00:05:44,770
that many firms unfortunately ignore: not just how your organization might go about its
business but also how you might think about your
43 own career plans ahead.
00:04:38,580 --> 00:04:46,430
Squarely address issues related to both the 53
organizational structure and organizational culture 00:05:44,770 --> 00:05:50,530
of your organization. So please remember what I said at the beginning
of this module: Not having a strategy IS a strategy
44 –
00:04:46,680 --> 00:04:49,850
Key Questions here include: 54
00:05:50,530 --> 00:05:54,490
45 and one likely doomed to failure.
00:04:49,850 --> 00:04:55,890

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 55
00:05:54,490 --> 00:06:01,130
In our next lesson, we will provide some further
microeconomic context for the field of
management strategy

56
00:06:01,130 --> 00:06:06,080
as we discuss the related topics of oligopoly and
game theory.

57
00:06:06,080 --> 00:06:13,130
It should be a fun lesson, so when you have
completed your assignments for this lesson, just
move on to Lesson Seven.

58
00:06:13,130 --> 00:06:20,510
From the Merage School of Business at the
University of California-Irvine, I’m Peter Navarro.
And we’ll see you next time.

© Peter Navarro MICROECONOMICS

Unauthorized use of, dissemination, and/or duplication of this material is strictly prohibited.