Sample Problems and Answers based on the lecture from Chapter 13

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Sample Problems and Answers based on the lecture from Chapter 13: Problem 1: Define and differentiate between monopoly, oligopoly, and monopolistic competition market structures. Answer : Monopoly: A market structure with a single firm dominating the industry and having complete market power. There are significant barriers to entry, allowing the monopolist to set prices and quantity to maximize profits. Oligopoly: An intermediate market structure with only a few firms dominating the industry and substantial barriers to entry. Oligopolistic firms have market power and may collude to act as a monopoly, or they can compete with one another. Monopolistic Competition: A market structure in which firms have market power, but new firms can enter the market and earn positive profits. Products are differentiated, leading to downward-sloping demand curves, and firms set prices above marginal cost. Problem 2: Give an example of an industry that represents an oligopoly. Answer : The video game market, where three dominant firms - Nintendo, Microsoft, and Sony - dominate the industry, represents an oligopoly. These firms have significant market power, and their profits depend on pricing strategies and product features relative to each other. Problem 3: Explain the concept of a cartel and provide a real-world example. Answer : A cartel is a group of firms that explicitly agree to coordinate their activities to act as a single entity, usually with the goal of maximizing joint profits. One well-known example of a cartel is the Organization of Petroleum Exporting Countries (OPEC). OPEC is a group of oil-producing countries that collaborates to control the global oil supply and prices. Problem 4: Compare and contrast Nash-Cournot equilibrium and Nash-Bertrand equilibrium in oligopolistic markets. Answer : Nash-Cournot Equilibrium: In this equilibrium, firms simultaneously choose quantities without collusion. Each firm's best-response curve shows how much output it produces based on the quantity it expects its rivals to produce. The equilibrium occurs where the best-response curves intersect, and no firm has an incentive to change its quantity. Nash-Bertrand Equilibrium: In this equilibrium, firms set prices instead of quantities. Each firm's best- response curve shows the price it sets based on the price it expects its rivals to charge. The equilibrium occurs where the best-response curves intersect, and no firm has an incentive to change its price. Problem 5: Explain how entry and exit occur in monopolistic competition and why monopolistically competitive firms earn zero economic profit in the long run. Answer : In monopolistic competition, firms can freely enter or exit the market due to the absence of significant barriers. When firms in this market earn positive economic profits in the short run, new firms are attracted to enter, increasing competition. As more firms enter, the demand for each individual firm's product decreases, leading to reduced market power. This process continues until firms earn zero

economic profit in the long run, as new entrants dilute their market share. Ultimately, monopolistically competitive firms set prices above marginal cost, resulting in zero economic profit in the long run. Sample questions based on the lecture: Chapter 13 1. What are the two extreme cases of market structures discussed in this chapter? Name the market structures that lie in between these two extremes. Answer : The two extreme cases of market structures discussed are monopoly and perfect competition. The market structures that lie in between these two extremes are oligopoly and monopolistic competition. 2. Define oligopoly and monopolistic competition. How do they differ from perfect competition and monopoly in terms of the number of firms and barriers to entry? Answer : Oligopoly is a market structure with only a few firms and substantial barriers to entry. Monopolistic competition is a market structure in which firms have market power, but no additional firm can enter and earn positive profits. In contrast, perfect competition has many firms, and entry is unrestricted until no new firm can profitably enter, resulting in zero long-run economic profit. Monopoly has a single firm with significant barriers to entry, giving it complete market control. 3. Explain the concept of a cartel. Provide an example of an international cartel. Answer : A cartel is a group of firms that explicitly agree to coordinate their activities, usually by colluding to set prices or output levels to increase their profits collectively. An example of an international cartel is the Organization of Petroleum Exporting Countries (OPEC), which consists of several oil- producing countries working together to control oil prices and production levels. 4. What is the Nash equilibrium in the context of the Cournot model? How is it determined? Answer : The Nash equilibrium in the Cournot model is a set of quantities chosen by firms such that, holding the quantities of all other firms constant, no firm can obtain a higher profit by choosing a different quantity. It represents a stable outcome where firms have no incentive to change their behavior. The Nash equilibrium is determined by finding the intersection point of the firms' best-response functions, where each firm optimally chooses its quantity given the expected output of its rivals. 5. Compare and contrast the Nash-Cournot equilibrium and the Nash-Bertrand equilibrium. What are the key differences in terms of pricing and profits? Answer : The Nash-Cournot equilibrium occurs when firms set quantities independently, resulting in prices above marginal cost and positive profits. In contrast, the Nash-Bertrand equilibrium occurs when firms set prices independently, leading to prices equal to marginal cost and zero economic profit. The main difference is that the Nash-Cournot equilibrium is quantity-based competition, while the Nash- Bertrand equilibrium is price-based competition. 6. What factors influence the number of firms in a monopolistically competitive market equilibrium? Explain with an example. Answer : The number of firms in a monopolistically competitive market equilibrium is influenced by the fixed costs incurred by each firm to enter the market. Higher fixed costs lead to fewer firms in the market equilibrium, while lower fixed costs result in more firms. For example, in the airlines industry, if each airline incurs a significant fixed cost to enter, the market equilibrium may have only a few firms. On the other hand, if the

fixed costs are relatively low, more airlines can enter, leading to a larger number of firms in the market equilibrium. 7. What are the key differences between oligopolies and monopolistic competition in terms of the number of firms and barriers to entry? Provide examples of each to support your answer. Answer : Oligopolies have only a few firms in the market with substantial barriers to entry, whereas monopolistic competition has many firms, and entry is relatively easy with low barriers. For example, the video game market is an oligopoly with three dominant firms (Nintendo, Microsoft, and Sony), and substantial barriers to entry. On the other hand, the fast-food industry is an example of monopolistic competition, with numerous firms (e.g., McDonald's, Burger King, Wendy's), and relatively low barriers to entry. 8. Describe the concept of the Nash-Stackelberg equilibrium. How does it differ from the Nash- Cournot equilibrium, and what advantages does the leader have in this scenario? Answer : The Nash-Stackelberg equilibrium occurs in an oligopolistic market where one firm (the leader) sets its output or price before its rival firms (the followers) make their decisions. The leader can predict the actions of the followers and manipulate their choices. In the Nash-Cournot equilibrium, firms make output decisions simultaneously. The advantage of being the Stackelberg leader is that the leader can produce more output than the followers and gain a larger market share. 9. Explain the concept of monopolistic competition and its long-run economic outcome. How does it differ from perfect competition in terms of prices and profits? Answer : Monopolistic competition is a market structure where firms have market power, but entry is easy, leading to zero long-run economic profit. In the long run, monopolistic competition firms charge prices above marginal cost due to their downward-sloping demand curves. This differs from perfect competition, where firms make zero economic profit in the long run and set prices equal to marginal cost. 10. Provide an example of a market that exhibits monopolistic competition, and explain how firms in this market differentiate their products to capture consumer demand. Answer : The fast-food industry is an example of monopolistic competition. In this market, different firms (e.g., McDonald's, Burger King, Wendy's) offer similar but differentiated products to attract consumers. Firms use advertising, branding, unique flavors, and other promotional activities to convince consumers that their products are superior or offer a distinct experience. By differentiating their products, they can create a loyal customer base and have some control over the prices they charge. Some more problems: Problem 1: Define and differentiate between monopoly, oligopoly, and monopolistic competition market structures. Solution : Monopoly is a market structure with a single firm dominating the industry and having complete market power. There are significant barriers to entry, allowing the monopolist to set prices and quantity to maximize profits.

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Oligopoly is an intermediate market structure with only a few firms dominating the industry and substantial barriers to entry. Oligopolistic firms have market power and may collude to act as a monopoly, or they can compete with one another. Monopolistic Competition is a market structure in which firms have market power, but new firms can enter the market and earn positive profits. Products are differentiated, leading to downward-sloping demand curves, and firms set prices above marginal cost. Problem 2: Give an example of an industry that represents an oligopoly. Solution : The video game market, where three dominant firms - Nintendo, Microsoft, and Sony - dominate the industry, represents an oligopoly. These firms have significant market power, and their profits depend on pricing strategies and product features relative to each other. Problem 3: Explain the concept of a cartel and provide a real-world example. Solution : A cartel is a group of firms that explicitly agree to coordinate their activities to act as a single entity, usually with the goal of maximizing joint profits. One well-known example of a cartel is the Organization of Petroleum Exporting Countries (OPEC). OPEC is a group of oil-producing countries that collaborates to control the global oil supply and prices. Problem 4: Compare and contrast Nash-Cournot equilibrium and Nash-Bertrand equilibrium in oligopolistic markets. Solution : Nash-Cournot Equilibrium: In this equilibrium, firms simultaneously choose quantities without collusion. Each firm's best-response curve shows how much output it produces based on the quantity it expects its rivals to produce. The equilibrium occurs where the best-response curves intersect, and no firm has an incentive to change its quantity. Nash-Bertrand Equilibrium: In this equilibrium, firms set prices instead of quantities. Each firm's best- response curve shows the price it sets based on the price it expects its rivals to charge. The equilibrium occurs where the best-response curves intersect, and no firm has an incentive to change its price. Problem 5: Explain how entry and exit occur in monopolistic competition and why monopolistically competitive firms earn zero economic profit in the long run. Solution : In monopolistic competition, firms can freely enter or exit the market due to the absence of significant barriers. When firms in this market earn positive economic profits in the short run, new firms are attracted to enter, increasing competition. As more firms enter, the demand for each individual firm's product decreases, leading to reduced market power. This process continues until firms earn zero economic profit in the long run, as new entrants dilute their market share. Ultimately, monopolistically competitive firms set prices above marginal cost, resulting in zero economic profit in the long run.

Sample Problems and Answers based on the lecture from Chapter 13

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