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Analysing Different Theories Of Competition Economics Essay

“The nature of competition and its consequences on key economic variables, such as prices, profits, and growth, have always been important for theoretical and empirical investigation.” (Tsalik and Tsoulfidis, 1998, p.187)
Many non-economist and even many economists use the term competition loosely to apply to markets that we refer to as non-competitive and some people use the term competition to refer to a market in which a few price-setting firms compete vigorously for sales. (Carlton and Perloff, 2005, p.85)
Different terms of competition can be applied by the extent of market power.
As Ochoa and Glick argued, in comparing competing theories, it is difficult to single out the variables that represent each theory and one should begin by evaluating the most typical representation of each theory. (Blaug, 1978, p.697)
First of all, the essay will present the standard neoclassical view of competition. In the next section, it will show the Austrian criticism of the standard theory. Then, turn to the Post-Keynesian criticism of the neoclassical theory of competition. Lastly, it will focus on the significance of the both criticism of the standard neoclassical view of competition.
Let’s start with standard neoclassical theory of competition; generally speaking, neoclassical theorists who are the mainstream economists extended Smith’s theory, classical theory, of a market system by formulating several conditions under which efficient resources allocation and an optimum level of social welfare would be realised. (Semmler, 1982, p 93) That is to say, in neoclassical theory, there are largely two main concerns of the school of thought, which are utility maximisation and resource allocation.
Moreover, it is also believed that the mainstream microeconomics, neoclassical theory, considers the real world of markets, just as if observed phenomena characterise the fulfilment of equilibrium conditions.
According to Tsaliki and Tsoulfidis, (1998) competition is regarded as a position of equilibrium that would prevail if there would be free exit and entry of firms, in terms of neoclassical view of economics.
As Semmler indicated, in terms of neoclassical theory, the main conditions, necessary for a perfectly working competitive market system, are seen as: profit maximising producers and utility maximising consumers; a sufficiently large number of market agents; no externalities among their activities; and perfect mobility of resources between industries; and perfect foresight. (Semmler, 1982, p.93)
As following the conditions we argued, it can assume that competitive procedures lead prices into equilibrium prices. As Semmler said, (1982) competition can lead disturbances eliminated and an optimal allocation of resources brought. Moreover, throughout the market system the existence of equilibrium prices are guaranteed. In this manner, both equilibrium and optimisation are regarded as distinctive features of neoclassical theory.
In short, under neoclassical theory, Tsaliki and Tsoulfidis stated that the intensity of competition generally depends on the number of sellers and buyers on the market structure of an industry. (Tsaliki and Tsoulfidis, 1998, p.188)
Therefore, firms’ competitive behaviour is getting more effective as long as the number of firms in a specific industry is getting larger. As a result of this, Tsaliki and Tsoulfidis argued that competition produces an equilibrium set of prices that induce a Pareto optimal allocation of the economy’s goods and services. (Tsaliki and Tsoulfidis, 1998, p.188)
On the contrary, if the number of seller and buyer is getting smaller, the oligopolistic and monopolistic behaviour in the market is getting more and more. Consequently, some prices are above marginal cost and it is shown as underutilisation and underproduction even if they have available resources. It is called non-competitive equilibrium position.
For that reason, Tsaliki and Tsoulfidis argued that within the standard microeconomic theory of the firm, the persistence of profits in excess of normal is always associated with market imperfections, and therefore, with some degree of monopoly power. (Tsaliki and Tsoulfidis, 1998, p.188)
Semmler believed that the features of standard theory need some qualifications, which is there are three main qualifications.
Firstly, one of the qualifications is quantity theory of competition. As it mentioned above, the intensity of competition in the market can be measured by the quantity theory of competition. It can mean that sufficiently large number of firms can lead to the optimum level closely. Next comes to one of the key assumptions is prices and quantities congregate on the way to an equilibrium driven by competitive features. Lastly, the elimination of uncertainty, risk and expectation, is the third features of the neoclassical view of key assumptions.
Furthermore, in this theory, As Tsaliki and Tsoulfidis mentioned, firms are mainly seen as passive, that is-given the consumers’ preferences and the technological opportunities-they merely react to parametrically given prices. (Tsaliki and Tsoulfidis, 1998, p.188)
The work researched by Tsaliki and Tsoulfidis (1998) showed that the market structure of industries tends to be the core factor of neoclassical empirical studies with respect to observed interindustry profit rate differentials. Moreover, they believed that many neoclassical economists consider barriers to entry at least as equally significant as the degree of industry concentration.
According to Vaughn, he argued that the Austrian tradition is represented in modern economics by a ‘very vocal, feisty and dedicated subset of the economics profession’ (Vaughn, 1994, p.11)
Generally speaking, the approaches researched by the Austrian writers have contributed to most primary problems of microeconomics, for sure. According to Kirzner, the fundamental theory of Austrian approaches is the conviction that the standard neoclassical microeconomics, for which the Walrasian general equilibrium model (in its modern Arrow-Dbreu incarnation) is the analytical core, fails to offer a satisfying theoretical framework for understanding what happens in market economies. (Kirzner, 1997, p.61)
In terms of the Austrian approach, imperfect information can be decided as involving an element whilst it cannot be a part of neoclassical elements.
Modern Austrian theory can be discussed as several main factors, which play a significantly important role in Austrian theory. In the paper, we will focus on two significant element, entrepreneurship and equilibrium concepts to understand Austrian criticism of standard view.
The key point of the main factors in understanding the competitive process is entrepreneurship, the driving aspect in the Austrian theory. To understand entrepreneurial discovery approach needs to be aware of understanding actions, conditions and circumstances of entrepreneurs. Moreover, it is also pivotal to understand the nature of uncertainty. In the Austrian theory entrepreneurs always face uncertainties, which are pervasive and which are risks and fundamental uncertainties. Unlike the neoclassical theory, Austrian theory can be stated as unknowable due to the uncertainty. Nevertheless, it is not unimaginable because in Austrians the role of agents’ imagination, which is an unknown idea in neoclassical theory, plays pivotal role to create the future.
According to Kirzner, the entrepreneurial discovery approach has echoed criticisms of equilibrium economics and have deployed criticisms in seeking to demote the concept of perfect competition from its position of dominance in modern neoclassical theory in order to replace it by notions of dynamic competition. (Kirzner, 1997, p.64)
The entrepreneurial discovery approach has been affected by the work driven from Mises and from Hayek.
In terms of Mises’ view, he believed that the market is regarded as entrepreneurially driven process under Austrians. Moreover, Hayek focuses on the role of knowledge and its enhancement throughout the market interaction. For Mises, entrepreneurship is human action “seen from the aspect of the uncertainty inherent in every action” (Mises, 1949, p.255) He, also, focus on the importance of entrepreneur who is always every actor in any real and living economy.
According to Kirzner (1997), each decision made by neoclassical theory is made within a without doubt known framework. Consequently, it has believed that in neoclassical idea, there is no specific role and opportunity for entrepreneurship differed from Austrian microtheory. It means that, simply speaking; there is nothing entrepreneur can do.
In this manner, it shows that “whereas each neoclassical decision market operated in a world of given price and output data, the Austrian entrepreneur operates to change price/output data.” (Kirzner, 1997, p.70)
Now, the essay will focus on the Austrian criticism of the equilibrium idea of the standard neoclassical theory.
As Kirzner (1997) mentioned “neoclassical economics operates on the assumption that the world reflects the relationships that would prevail in such equilibrium models – with the model of competitive equilibrium being the favourite one”
However, generally speaking, the Austrian approach disagrees and criticises this approach to understanding markets.
According to Kirzner (1997), he has believed that the Austrian theory is based on individuals whilst the neoclassical theory considers the individual decision as a mechanical exercise in constrained maximisation. Therefore, it has believed that the process of competition is open-ended for Austrians but not for neoclassical theorists.
As Kirzner (1997) argued, Within the neoclassical theory, the only explanatory means for understanding prices and outputs is to admit equilibrium theory. However, under Austrian concepts, it cannot be acceptable.
Post-Keynesian economics is essentially a response to the failures of neoclassical theory and its inadequate characterisation of economic activity. (Davis, 1987, p.552)
Now, the essay will discuss the significance of Post-Keynesian criticism of the standard neoclassical view of competition.
“Post-Keynesian economics has passed through the important initial change of mounting a concerted critique of mainstream economics” (Arestis, 1996, p.11)
In terms of alternative theories of competition, Post -Keynesians are defined as two key factors; which are dominant firms and administered prices unlike neoclassical theory.
However, by and large, Post-Keynesians, who are a various set of economists, do not have generally accepted theory of competition. Nevertheless, Kalecki, who set the main tradition of Post-Keynesian theory, argued that the majority of Post-Keynesians maintain the above outlined classical cross-over dynamical process only for the primary sector of the economy characterised by a large number of producers, rigid supply in the short run, and flexible prices, which are ‘demand determined’ (Kalecki, 1969, p.11) Moreover, uncertainty, is one of the most key factors of Post-Keynesians concern, is regarded as a reflection of real-world decision-making.
In terms of Lavoie’s view, he indicated that Post-Keynesians have noted that oligopolies constitute their representative Post-Keynesian industry. They believed that oligopoly is the general state in most markets.
Under Post-Keynesian theory, prices are decided by dominant firms not by markets. In this manner, it has believed that prices are administered in accordance with firm’s objectives, more particularly, prices of finished goods are set by a mark-up pricing on some measure of unit costs not by market clearing prices.
Lavoie argued that the issue of the domain of validity of the Post-Keynesian firm by saying that Post-Keynesians assert that there are hardly any markets where prices are not administered by firms. As a result, he indicated that most industries are to some extent imperfect or monopolistic markets, even those that at first sight might appear to be competitive. (Lavoie, M, 1992, p.98)
Generally speaking, economic movements in real markets cannot fully explain by one specific theory. For example, according to Davis (1987), in the 1980s the number of individuals both in and outside economics has come to perceive the world beset by economic crisis. However, orthodox neoclassical theory has been largely unresponsive to these developments. Therefore, we need alternative theory to response the problems such as Austrian theory and Post Keynesian theory.
We have focused on tree theory, which are standard neoclassical view, Austrian theory, and Post-Keynesian view of competition.
Austrian view of competition emphasises on the entrepreneurial rivalry to explain competition whilst Post-Keynesians are determined by dominant firms and administered prices theories.
The significance outcome we need to focus in the essay is to evaluate the relevance of the neoclassical orthodoxy, Post Keynesian, and Austrian theories of competition. Therefore, we can examine the appropriate way to contribute problems occurred.

Economies Of The Scale Plant Size Economics Essay

The newly formed Bangladesh Automobile Corporation plans to produce and export an expensive sports car and has asked your consulting firm for advice on the size of plant to construct. Because of the union contract and technical features of automobile production, labour must be paid the equivalent of $12,000 per person per annum, and each incremental change in plant size involves $900,000 in annual expenses for depreciation, interest, and other fixed costs. The maximum the firm will have available for expenditure on capital and labour is $9 million per annum. BAC has supplied the following details of its production function, meticulously derived by its chief engineer. (The data in the body of the table represent automobiles produced, in units.) Labour can be varied virtually continuously; the table shows units of fifty persons for convenience. All other variable expenses are constant at $2,500 per vehicle produced.
Capital
(units of
$900,000)
Labour (units of 50 persons)
1
2
3
4
5
6
3
40
90
140
170
180
185
4
60
120
180
220
230
236
5
100
170
230
250
260
268
6
170
200
240
270
280
289
BAC’s market research indicates that the new vehicle should be sold at around $50,000 per unit and that the expected demand situation is as follows:
Units Demanded (annually) 100 150 200 250
Probability 0.20 0.50 0.20 0.10
(a) Plot the short run ATC curves suggested by the production function and input cost figures.
(b) Comment on the economies and diseconomies of plant size (if any) which are evident in your graph.
(c) Disregarding the probabilities, which plant do you suggest that BAC build if the demand is expected to be (i) 150, (ii) 200, or (iii) 250, and why?
(d) Now regarding the probabilities, which plant do you suggest that the company build, and why?
Answers: (C) (i) If the demand is considered to be 150, then to calculate Profit, we would use the following formula: Profit = Total revenue – Total cost
For Plant 1: The amount of labor required to produce 150 units will be 200(50×4).
Therefore, Profit =150*50000-(2700000 (200*12000) (150*2500)) =$ 2025000
For Plant 2: The amount of labor required to produce 150 units will be 150(50×3).
Therefore, Profit =150*50000-(3600000 (150*12000) (150*2500)) = $ 1725000
For Plant 3: The amount of labor required to produce 150 units will be 100(50×2).
Therefore, Profit =150*50000-(4500000 (100*12000) (150*2500)) =$ 1425000
For Plant 4: The amount of labor required to produce 150 units will be 50(50×1).
Therefore, Profit =150*50000-(5400000 (50*12000) (150*2500)) =$ 1125000
Thus in this case where demand is 150, to generate profit, BAC should go with Plant 1 as it would maximize profit. (ii) If the demand is considered to be 200. For Plant 1: In this case, where the demand is 200, Plant 1 cannot be used, as the maximum number of units that can be produced by Plant 1 would be 185.
For Plant 2: The amount of labor required to produce 200 units will be 200(50×4)
Therefore, Profit =200*50000-(3600000 (200*12000) (200*2500)) =$ 3500000
For Plant 3: The amount of labor required to produce 200 units will be 150(50×3)
Therefore, Profit =200*50000-(4500000 (150*12000) (200*2500)) =$ 3200000
For Plant 4: The amount of labor required to produce 200 units will be 100(50×2)
Therefore, Profit =200*50000-(5400000 (100*12000) (200*2500)) =$ 2900000
Thus in this case where demand is 200, to generate profit, BAC should go with Plant 2 as it would maximize profit and with Plant 1, 200 units can never be produced. (iii) If the demand is considered to be 250,
For Plant 1: In this case, where the demand is 250, Plant 1 cannot be used, as the maximum number of units that can be produced by Plant 1 would be 185.
For Plant 2: In this case, where the demand is 250, Plant 2 cannot be used, as the maximum number of units that can be produced by Plant 2 would be 236.
For Plant 3: The amount of labor required to produce 250 units will be 200(50×4)
Therefore, Profit =250*50000-(4500000 (200*12000) (250*2500)) =$ 4975000
For Plant 4: The amount of labor required to produce 250 units will be 100(50×4)
Therefore, Profit =200*50000-(5400000 (100*12000) (200*2500)) =$ 4075000.
Thus in this case where demand is 250, to generate profit, BAC should go with Plant 3 as it would maximize profit and with Plant 1 and Plant 2, 250 units can never be produced. (D) If we consider the probabilities, to identify which plant the company should build, then we need to consider the profit that can be made by each plant and then identify which plant makes maximum profit.
For Plant 1: Case1: When the demand is 100, the maximum profit that they would earn is $250000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Total Profit = Profit * Probability
Demand = 100; Profit = $250000; Probability= 0.2
Total Profit =250000*0.2 =$ 50000
Case 2: When the demand is 150, the maximum profit that they would earn is $2025000. Now if we consider the probability factor, where in this case it is 0.5, then the profit made would be:
Demand = 150; Profit = $ 2025000; Probability= 0.5
Total Profit = 2025000* 0.5 =$1012500
Case 3 and Case 4: If the demand increases to 200 or 250, Plant 1 cannot be used as the maximum units that can be produced by plant 1 is 185.
Thus the total profit that can be made by Plant 1 is $1062500.
For Plant 2: Case1: When the demand is 100, the company would make a loss of -$50000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Demand = 100; Loss = -$50000; Probability= 0.2
Total Profit =-50000 * 0.2 =$ -10000
Case 2: When the demand is 150, the maximum profit that they would earn is $1725000. Now if we consider the probability factor, where in this case it is 0.5, then the profit made would be:
Demand = 150; Profit = $ 1725000; Probability= 0.5
Total Profit = 1725000* 0.5 =$862500
Case 3: When the demand is 200, the maximum profit that they would earn is $3500000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Demand = 200; Profit = $ 3500000; Probability= 0.2
Total Profit = 3500000* 0.2 =$700000
Case 4: If the demand increases to 250, Plant 2 cannot be used as the maximum units that can be produced by plant 2 is 236.
Thus the total profit that can be made by Plant 2 is $1552500
For Plant 3: Case1: When the demand is 100, the company would make a loss of -$350000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Total Profit = Profit/Loss * Probability
Demand = 100; Loss = -$350000; Probability= 0.2
Total Profit =-350000* 0.2 =-$ 70000
Case 2: When the demand is 150, the company would make a loss of -$1075000. Now if we consider the probability factor, where in this case it is 0.5, then the profit made would be:
Demand = 150; loss = -$1075000; Probability= 0.5
Total Profit = -1075000* 0.5 =-$537500
Case 3: When the demand is 200, the maximum profit that they would earn is $3200000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Demand = 200; Profit = $ 3200000; Probability= 0.2
Total Profit = 3200000* 0.2 =$640000
Case 4: When the demand is 250, the maximum profit that they would earn is $4975000. Now if we consider the probability factor, where in this case it is 0.1, then the profit made would be:
Demand = 150; Profit = $ 4975000; Probability= 0.1
Total Profit = 4975000* 0.1 =$497500
Thus the total profit that can be made by Plant 3 is $530000.
For Plant 4: Case1: When the demand is 100, the company would make a loss of -$1250000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Total Profit = Profit/Loss * Probability
Demand = 100; Loss = -$1250000; Probability= 0.2
Total Profit =-1250000* 0.2 =-$250000
Case 2: When the demand is 150, the maximum profit that they would earn is $1125000. Now if we consider the probability factor, where in this case it is 0.5, then the profit made would be:
Demand = 150; loss = $ 1125000; Probability= 0.5
Total Profit =1125000* 0.5 = $562500
Case 3: When the demand is 200, the maximum profit that they would earn is $2900000. Now if we consider the probability factor, where in this case it is 0.2, then the profit made would be:
Demand = 200; Profit = $ 2900000; Probability= 0.2
Total Profit = 2900000* 0.2 =$580000
Case 4: When the demand is 250, the maximum profit that they would earn is $4075000. Now if we consider the probability factor, where in this case it is 0.1, then the profit made would be:
Demand = 150; Profit = $ 4075000; Probability= 0.1
Total Profit = 4075000* 0.1 =$407500
Thus the total profit that can be made by Plant 4 is $1300000.
Plant 2 is the plant that would make maximum profit for BAC. Thus BAC should go with Plant 2. Question II
Increasing returns with Network effect
The law of diminishing returns is not a mathematical theorem, but an empirical assertion that has been observed in almost every economic production process as the amount of variable input increases. An interesting exception occurs, however, with network effects. The greater the installed based of a network product, the larger the number of compatible network connections and therefore the more possible value for a new customer. Consequently, as the sales penetration increases, the firm’s promotions and other selling activities to acquire new customers become increasingly more productive.
Discuss two examples of the product that fits this pattern.
Provide a graphic illustration of sales penetration curve pertaining to the network effect and explain your logic.
Answers: Network effect occurs when the value of the product increases as the number of people using the product increases. Here the products success is determined by the increasing acceptability and compatibility of the product rather than it being superior of inferior than and of its competition.
(A)Examples of Network Effect are as flows: Stock Exchanges: These are basically stock exchanges where stocks of listed companies are traded. They are very typical examples of the Network Effect. Here, the Market Liquidity or the amount of money that is there in the market is a major determinant of transaction cost for the sale and purchase of securities. As the number of buyers and sellers increases, the market liquidity also increases and hence the transaction cost decreases as the spread between the price at which purchase can be made and the price at which a sale can be made diminishes. This decrease in the difference between prices is because of increased competitiveness within the market and the power to determine the price shifts from few to many people and hence this entire event attracts a large number of buyers and sellers towards the market.
Websites: Many websites also display the Network Effect. One very important example is the online stores. For e.g. eBay. EBay has a bidding system wherein buyers can place bids on the products they want to buy within a certain period of time and the highest bid gets the product when the time frame expires. This model would not succeed if the number of buyers or sellers on eBay were less as few buyers or sellers can influence the price of a product considerably and take undue advantage. However, as the number of buyers and sellers on eBay increases, the auctions become more and more competitive which attracts more eBay users on both ends (Buying and selling). As the number buyers on eBay increases the bids prices rise and hence it becomes more viable to sell on eBay. This results in a spike in the number of sellers on eBay and hence brings down the prices of products as the supply increases. All in all, more and more people find eBay more useful as the number of eBay users increases.
Social Networking websites such as Facebook, Twitter are also a very good example of The Network Effect. Here, as the number of people who register onto the websites increases, the better it is for the already existing users.
(B.) C:UsersAdminDesktopUntitled.png
Explanation and Logic: In the above figure, from 0 to 30 percent market share, the sales and advertising effort required to attain each additional point of market share have a diminishing return indicated by the reducing slope of the sales penetration curve. But when the number of users on a network based product reaches 30 to 40 percent market share, achieving more and more market share beyond that point becomes cheaper and cheaper (indicated by the increasing slope of the sales penetration curve). This is because beyond 30 percent market share, every point increase in the market share increases the probability of adoption of the product by another customer and hence the sales and advertising expense required to gain additional unit sales becomes comparatively less. Beyond 80 to 90 percent market share, it becomes increasingly expensive to gain the final adopters for the product as the selling and advertising required to achieve these customers again become subject to diminishing returs.
Question III DEMAND: CASE STUDY: PERSONAL VIDEO RECORDER Personal video recorders (PVRs) are digital video recorders used to record and replay television programs received from cable, satellite, or local broadcasts. But unlike VCRs, which they replace; PVRs offer many more functions, notably the ability to record up to 80 hours of programs and easy programming. A PVR consists of an internal hard disk and microprocessor. After the owner installs the hardware, the PVR downloads all upcoming TV schedules to the hardware via a phone or cable connection. Users merely enter the name of the show(s) they want recorded and the system finds the time and channel of the show and automatically records it. Users must subscribe to a cable or satellite system if they wish to record programs off these channels.
Besides ease of programming and much larger recording capacity than videotape, PVRs allow the user to watch a prerecorded show while the unit is recording a new program, pause watching live programs (for example, if the phone rings) and then resume watching the rest of the live broadcast, view instant replays and slow motion of live programs, and skip commercials.
In effect, PVRs, like older VCRs, allow viewers to control when they watch broadcast programs (called time shifting). However, PVRs provide much sharper pictures and are much simpler to operate than VCRs, and PVRs allow the user to download the television schedule for the next week.
Two companies currently sell the hardware and provide the subscription service: TiVo and ReplayTV. Both firms started in 1997: As of mid-2003 TiVo had nearly 700,000 subscribers and ReplayTV had about 100,000. Companies are developing new technologies that make it even easier for users to “snip” commercials.
Cable companies have begun offering a combined cable box and PVR in one unit for a small additional monthly charge. This further simplifies setup and operation, and the user gets a single bill.
Discussion Questions
1. Discuss how PVRs will affect the demand from advertisers?
2. Suppose you are in charge of setting the price for commercial advertisements shown during Enemies, a top network television show. There is a 60-minute slot for the show. However, the running time for the show itself is only 30 minutes. The rest of the time can be sold to other companies to advertise their products or donated for public service announcements. Demand for advertising is given by:
Qd = 30 – 0.0002P 26 V
where Qd = quantity demanded for advertising on the show (minutes), P = the price per minute that you charge for advertising, and V is the number of viewers expected to watch the advertisement (in millions).
a. All your costs are fixed and your goal is to maximize the total revenue received from selling advertising. Suppose that the expected number of viewers is one million people. What price should you charge? How many minutes of advertising will you sell? What is total revenue?
b. Suppose price is held constant at the value from part (a). What will happen to the quantity demanded if due to PVRs the number of expected viewers falls to 0.5 million? Calculate the “viewer elasticity” based on the two points. Explain in words what this value means.
3. As more viewers begin using PVRs, what happens to the revenues of the major networks (CBS, NBC, ABC, and FOX)?
4. Discuss the long-run effects if a significant proportion of the viewers begin adopting these “advertising snipping” systems:
5. What advice would you give the major commercial networks and producers of programming for these networks as more consumers adopt PVRs?
SOURCE: J, Gudmundsen (2002); “Video Gizmos Change the Rules,” Democrat and Chronicle (August), 5E and 8E; B. Fisher (2003); “TiVo and Replay N Have Features to Satisfy any N Junkie,” Detroit News (June 24); R. Reilty (2003), “Great Invention Period;” Sports Illustrated (December 22), (Adopted from Managerial Economics, fourth ed. James Brickley, et. al.Ch. 4, pp. 120-121)
Answers: (1.) If there is a surge in the use of PVRs, there will be a decrease in the demand from advertisers. It is for the simple reason that more people would use the PVRs to record TV shows and would skip the commercials shown in between shows, thereby resulting in less viewership of ads. Hence there would be a decrease in demand from the advertisers and they would have to find other means of promotions.
(2.)(A) The production equation: Qd = 30- 0.0002P 26V
Viewership: 1 mil
Revenue : Qd * P
Qd
30
29
28
27
Price
130000
135000
140000
145000
Revenue
3900000
3915000
3920000
3915000
The ideal price to be charged is $14000 for 28 minutes because this is the value where the revenue is maximum.
To total revenue will be $3,920,000
(B) If the value is kept constant at $140,000 and the viewership decrease because of PVRs to 0.5 million, then Qd: 30-(0.0002 x 140,000) (26 x 0.5) = 15 . The quantity demanded will decrease from 28 to 15.
Viewers elasticity would be defined by [ΔQ/(Q1 Q2)/2]/[ ΔV/(Va V2)/2]= 0.9
This is below 1, the elasticity of viewers is inelastic. The decrease in viewership will not cause a substantial decrease in demand of advertising.
(3.) As more consumers start using PVRs, the revenues of major networks like CNN, ABC, and Fox… etc will most likely fall substantially. Since total revenue is a component of price multiplied by the quantity demanded, the decrease in the quantity demanded will result in lower profits.
(4.) If a huge chunk of the viewers start to adopt these “advertising snipping” systems, the long-run effects would be unfavorable towards the broadcasting firms resulting in lower profits and since lesser companies would use commercials to adverting their products, there will be a significant decrease in the demand of infomercials and Ads respectively.
(5.) The suggestion that we would provide to these major commercial network firms for these networks would be
a. To increase the quality of the commercials and make them interesting and exciting. The firms should consider tha target audience watching that particular show at the time and construct commercials targeted towards them, so the viewers can actually enjoy the commercials instead of snipping them out.
b. The other suggestion would be to slowly decrease the price of the advertising rate per second so that the companies still continue to advertise and are not discouraged to stop advertising at all.
c. Another form of advertising could be to integrate advertising into the shows itself. The companies con collaborate with the production house of the prime shows and the actors can be made to use the products on the show (e.g. Actors can be shown wearing a particular brand of jacket)
Question IV HP and DELL personal Computers Consider the following questions about competitive strategy in personal computers.
Questions
Does easy access to distribution channels at Best Buy, Office Depot, and the direct- to- consumers on the Internet, and small minimum efficient scale in assembly operations indicate high or low entry threat in the PC business? Why? Do suppliers appropriate little or most of the value in the PC value chain? Why? What factors determine the intensity of rivalry in an industry? Is the intensity of rivalry in the PC industry high or low? Why? Anwers: (1.)Entry threat is Low for mature markets and Medium for developing markets.
Established players have a huge advantage over new entrants, because they have already attained their Minimum Efficient Scale, creating a cost advantage. Patents and copyrights are the most common artificial barriers to entry in the PC industry. Also, switching to competing product is very rare due to high switching costs and probable software incompatibility.
Startup costs for new entrants are also quite high mostly due to research and development, market research licensing expenditure and lack of established relations with key suppliers.
However, new entrants are capable of achieving market share in developing markets, like Eastern Europe, Latin America, Asia Pacific region, and the Middle East. So, smaller firms with the right resources and capability may be able to achieve economies of scale in developing markets.
(2.) Suppliers appropriate the most of the value in PC value chain because of the following:
Suppliers of core PC hardware (IBM, Intel) and software (Microsoft) hold dominant market position and almost impossible to switch, hence they have considerable bargaining power and can sell their products at premium price.
There is always a threat of forward integration by the suppliers since their products are technically sophisticated, innovative and protected by copyrights and other non-core PC components are easily obtainable through numerous sources.
Main competitive advantages in PC industry nowadays are costs and customer brand loyalty, hence profit margins of PC manufacturers are very low, which does not affect supplier profit margins.
Therefore, the suppliers tend to have little value in the PC value chain.
(3.)According to Porter’s five forces,
Intensity of rivalry is high, when:
Intensity of rivalry is low, when:
• Competitors are numerous
• Competitors are few
• Competitors have relatively equal size
• Competitors have relatively unequal size
• Competitors have relatively equal market share
• Competitors have relatively unequal market share
• Industry growth is slow
• Industry growth is fast
• Fixed costs are high
• Fixed costs are low
• Products are weakly differentiated
• Products are highly differentiated
• Brand loyalty is insignificant
• Brand loyalty is significant
• Consumer switching costs are low
• Consumer switching costs are high
Pc market nowadays is relatively highly competitive, with only four main players selling weakly differentiated products. Brand loyalty is very important, because consumer switching costs are very high, hence main focus of the competition lies in innovation (to create temporary differentiation) and building tailored solutions to increase brand loyalty. Therefore we can conclude that intensity of rivalry in PC industry is relatively high.
Question V Coke and Pepsi have sustained their market dominance for nearly a century. General Motors and Ford gave been hard hit by competition. What is different about product/market situations in these two cases that affect sustainability?
Answer:
The two sets of products are very different from each other. Pepsi and Coke is a fast moving consumer good, which is sold everywhere – and hence, it’s extremely accessible and is consumed multiple times. However, cars fall in to the automobile industry and is not a fast moving good, a person takes into consideration multiple factors before graduating into a stage to be willing to purchase (readiness to buy) the product unlike Pepsi or Coke. For Pepsi and Coke due to the brand loyalty created through the years we cannot clearly say at what price a consumer will make a shift. However, when it comes to a car, we can tell that at even a slight fall or rise in the price can have an adverse effect on the demand of the product and a consumer will make the shift.
Why Pepsi and Coke managed to maintain its leadership position compared to General Motors and Ford because of it managed to adapt to changing market situations and consumer tastes and preferences whereas the two car manufacturers couldn’t. In economic terms Coke and Pepsi managed to maintain its oligopolistic nature of market structures in comparison to General Motors and Ford who lost the battle of market dominance and the market turned into a monopolistic one. The only two ways in which a challenger can enter the market and create a disruption in an oligopolistic market is by entering with large scale operational infrastructure to be able to compete with the economies of scale or the other way would be to succumb to the cost advantage by entering small scale. With respect to pepsi or coke when a new challenger enters the market with little knowledge or small scale production capabilities, they either buy it out or launch its own version of the product. Never have they ever faced a challenger of a competitive advantage until recently by red bull which is also only in the energy drinks category, overall beverage category its an unrealistic thought to conquer the market as no company can enter with a competitive edge in the mainstream carbonated drinks category. This helps Pepsi and Coke to maintain its leadership position. However, when the Japanese invaded the U.S market they had large scale operational advantage and brought products into the market which the consumer then wanted (small, reliable and well priced) which posed as a direct threat to General Motors and Ford. Their competitive advantage along with disruptive marketing lead to dwindling sales and eventually the sad demise of one the leading car manufacturers in the world. Therefore, above are the reasons why Pepsi and Coke managed to maintain their leadership situation when market situations changed and General Motors and Ford couldn’t.

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