Focus on industries not subject to economic regulation.

Industrial Organization Analysis: Structure Conduct Performance paradigm

• Structure: Market concentration, entry/exit costs, product differentiation

• Conduct: Pricing, advertising, commitment to production capacity, R&D, output

• Performance: Allocative and economic efficiency; technical progress; marginal cost pricing.

Structure Issues: Measuring Market Concentration

First we need to define the relevant market or industry, both in product space and geographically. Who are the rival firms, if any?

• Cross-price elasticity of demand - DoJ Merger guidelines regarding ability for a colluding group to sustain a 5-10 percent price increase several years.
• Who do the firms themselves consider to be their rivals, in terms of ad campaigns and other strategies?

Methods for Measuring Market Concentration:

• Herfindahl-Hirschman Index (HHI): Sum of squared market shares (in percentage terms, not decimal terms). Exercise: What is the HHI for a monopoly? What is HHI if there are four firms, each with 25 percent of the market? What is HHI if one firm has 50 percent market share, another 30 percent, and two others 10 percent each?
• Concentration Ratio: What share of overall sales is originated from the N-largest firms? N is typically 4; referred to as C-4.

Entry/Exit Costs (or "Barriers"):

Many economists do not like to refer to entry/exit costs as "barriers" to entry, because sufficient incentive will foster entry even if entry/exit costs are high.

Examples of entry costs: Acquiring expertise, licenses, production facilities, distribution channels, establishing consumer awareness, or designing around existing patents or trademarks.

Exit costs: Investments in expertise or image advertising create a product image or reputation. If the product is withdrawn from the market ("exit"), then the "asset" of image or reputation is lost, and cannot be salvaged. Thus the cost of creating these assets-expertise, image advertising, etc, are called sunk costs, the portion of fixed cost that lacks salvage value.

Product Differentiation: Horizontal or vertical. Leads to downward-sloping demand for the individual product (contrast with perfect competition)-why?

Antitrust:

What is a "trust" and why did they begin forming in the 1880s? (textbook p. 62).

What is the Sherman Antitrust Act, and what does it say in Sections 1 and 2?

What activities are made illegal in the Clayton Antitrust Act?

• PD
• Tying
• Wholesale price breaks for large retailers
• Resale price maintenance
• Exclusive Dealing
• Interlocking Directorates
• Mergers Between Rivals ("Horizontal Merger")

----ONLY IF these practices were to substantially lessen competition or tend to create a monopoly.…

What was the objective of the Federal Trade Commission Act?

These three pieces of legislation form the legal structure for federal competition policy in the US. (read text of these statutes in appendix at end of Ch. 3).

The language of these statues are vague and general, and it is up to courts to interpret the application of these statutes to particular circumstances.

Protect competitive process (low prices increase consumer surplus) or protect competitors (existence of rivals help assure competitive process)? Mainstream economists in the US prefer the former. These are not necessarily always in conflict.

Note: States have their own antitrust laws for intrastate commerce.

Note: Statutes allow for private entities with legal standing (for example, those allegedly harmed) to bring private antitrust cases to court. These are by far the most common.

Most federal cases involve horizontal price fixing, monopolization, and mergers. Most private party cases involve tying, exclusive dealing, dealer termination, and PD.

Great majority of private cases are settled out of court, and can involve treble damages. Federal cases usually end with consent decrees or orders.

Antitrust Exemptions: Labor unions (in Clayton Act); export sales; agricultural marketing organizations; professional sports teams; some research joint ventures (legislation).