S2 - barriers to entry

Question 1

what are contestable markets

Answer 1

contestable markets imply that industries which are not perfectly competitive can yield perfectly competitive price outcomes
No monopoly power
Subject to hit and run entry and exit if monopoly ignores threat of new competition

Question 2

what are necessary conditions for contestable market

Answer 2

Necessary conditions:
Potential entrants have access to the same technology as incumbent
No sunk costs
Consumers respond instantaneously to prices
Incumbents cannot instantaneously change prices in response to entry
entrant could capture market and costlessly leave before incumbent can react
Entry and exit rates are highly positively correlated

Question 3

what is limit price

Answer 3

the maximum price than an incumbent can charge which prevents entry
Assume homogenous products
Entrant believes incumbent will not alter price or quantity
No level of residual demand at which entry would be profitable

Question 4

criticisms of limit price

Answer 4

Is the threat credible? Does it benefit the incumbent?
If not credible post entry, potential entrant wouldn’t be deterred
Uncertainty about actual cost differences between the incumbent and potential entrant - limit pricing might be rational
Works if entrant doesn’t know real payoffs, otherwise can know what strategy they will choose

Question 5

what is separating and pooling equilibrium

Answer 5

Separating equilibrium = high and low cost firms charge different prices in period 1 and this reveals incumbents true costs
Pooling equilibrium = high and low cost firms charge the same price in period 1 and entrant learns nothing about incumbents true costs until after entry

Question 6

what is predatory pricing

Answer 6

aimed at firms that are already in the inducts
Force them to exit
Raise rivals costs
Vertical foreclosure
Investments to lower production costs
Utilising excess capacity
Often illegal

Question 7

what is multiple potential entrants

Answer 7

each entrant makes decision independent of others
Incumbent can accommodate entry or be aggressive
Aggressive strategy in early stages of game might deter current and future entrants to aim for payoff maximisation for incumbent

Question 8

what is price discrimination

Answer 8

charging different consumers different prices
First degree = complete transfer of consumer surplus to monopolist - no deadweight loss
Charge maximum they’re willing to pay
second degree = price paid per unit declines with quantity purchased
Monopolist extracts some but not all consumer surplus
third degree = price elastic varies between groups of consumers - arbitrage is not permitted

Question 9

what are welfare issues of price discrimination

Answer 9

first degree is efficient - same quantity sold as would be sold by a competitive industry
Consumer surplus is transferred to monopolist
Second degree may generate results that are comparable to first degree compares to a uniform pricing policy
But not Pareto efficient
third degree more difficult to assess
A group could be priced out of the market without it
Need to consider total value of surplus with pd compared to surplus without it

Question 10

what is two part pricing

Answer 10

to extract surplus
A firm with market power charges a fixed fee and a per unit charge for each unit purchased
Yields comparable results to first degree pd
No deadweight loss
All profits derived from the fixed fee

Question 11

what is block pricing

Answer 11

packaging units of a product and selling them as one package
Consumer isn’t free to decide how many units to purchase - all or nothing
One price charged