Introduction to Part I

Part I. Getting started Markets

Chapter 1. What is “Markets and Strategies”
Strategies”? • Play a central role in the allocation of goods
• Affect production decisions
Goal of “Markets and Strategies”
• Present the role of imperfectly competitive
markets for private and social decisions
Issues related to markets and strategies
• Extremely large array!
• Firms take thousands of strategic decisions
• .... reacting to particular market conditions
• .... and affecting the well-being of market participants.
Slides
Industrial Organization: Markets and Strategies
Paul Belleflamme and Martin Peitz
© Cambridge University Press 2009 © Cambridge University Press 2009 2

Introduction to Part I Introduction to Part I

Product
differentiation Organization of Part I
• Chapter 1
Horizontal • Roadmap
merger • Markets & strategies
• Chapter 2
Pricing
• Players in markets: firms & consumers
strategies • Profit maximization, utility maximization
• Market interaction

Entry
deterrence

© Cambridge University Press 2009 3 © Cambridge University Press 2009 4

1
Chapter 1 - Markets Chapter 1 - Market power

Markets Market power

• Allow buyers and sellers to exchange goods and • How do markets operate?
services in return for a monetary payment. • Perfectly competitive paradigm: both sides of the
• Myriad of different varieties market are price-takers
• Our main focus • OK for industries with small entry barriers and large number
of small firms.
• A small number of sellers set price, quantity and other • Our focus: markets in which firms have market power
variables strategically. • An incremental price increase does not lead to a loss of all of
• A large number of buyers react non-strategically to the demand.
supply conditions. • Applies to large firms, but also to small ones.
• Usually, buyers = final consumers (B2C)
• In some instances, buyers = other firms (B2B)
• Market power and its sources are at the core of
this course.

© Cambridge University Press 2009 5 © Cambridge University Press 2009 6

Chapter 1 - Number of firms Chapter 1 - Number of firms (2)

Number of firms in an industry Case.

Case. Alcoa’s natural monopoly
• Natural oligopoly • 1886: process of smelting aluminium is patented
• Supply and demand conditions are such that only a • A small number of firms use the patent and start to
dominate the industry.
limited number of firms can enjoy positive profits.
• Most successful: Alcoa (ALuminum COmpany of America)
• Positive profits are not competed away. • How?
• Government-sponsored oligopolies • Large economies of scale → Alcoa develops markets for its
growing output (intermediate and final aluminium products)
• Goal of competition policy: avoid monopolization • Production intensive in energy → in 1893, Alcoa signs in
• But, governments sometimes restrict entry. Why? advance for hydroelectric power produced at Niagara Falls
• Avoid socially wasteful duplication of certain investments • Production intensive in bauxite → Alcoa stakes out all the best
sources of North American bauxite for itself.
• Regulated monopolies
• Efficiency gains → Entry more difficult, even after expiration of
• Spectrum auctions for mobile telephony patents
• Patent protection to foster innovation (see Part VII) • Other factors → Public policy, tariff protection, limited antitrust
• Creation of national champions check before 1914.

© Cambridge University Press 2009 7 © Cambridge University Press 2009 8

2
Chapter 1 - Strategies Chapter 1 - Contents

Strategies Contents
• Decision theory vs. Game theory • Part I. Getting started
• Chapter 1. What is “Markets and Strategies”?
• Decision theory → isolated choices → monopoly • Chapter 2. Firms, consumers and the market
• Game theory → strategic interaction → oligopoly • Part II. Market power
• Nash equilibrium • Chapter 3. Static imperfect competition
• Prediction of market outcome when firms interact • Chapter 4. Dynamic aspects of imperfect competition
strategically • Part III. Sources of market power
• Main concepts used in this course • Chapter 5. Product differentiation
• Best-response function • Chapter 6. Advertising
• Pure-, mixed-strategy Nash equilibrium • Chapter 7. Consumer inertia
• Subgame perfect Nash equilibrium • Part IV. Pricing and market segmentation
• Bayesian Nash equilibrium • Chapter 8. Group and personalized pricing
• Perfect Bayesian Nash equilibrium • Chapter 9. Menu pricing
• Chapter 10. Intertemporal price discrimination
• Chapter 11. Bundling and tying

© Cambridge University Press 2009 9 © Cambridge University Press 2009 10

Chapter 1 - Contents (2) Chapter 1. What is “Markets and Strategies”

Contents (cont’d) Contents (cont’d)

• Part V. Product quality and information • Part VIII. Networks, standards and systems
• Chapter 12. Asymmetric information and signaling • Chapter 20. Markets with network goods
• Chapter 13. Marketing tools for experience goods • Chapter 21. Strategies for network goods
• Part VI. Theory of competition policy • Part IX. Market intermediation
• Chapter 14. Cartels and collusion • Chapter 22. Markets with intermediated goods
• Chapter 15. Horizontal mergers • Chapter 23. Information and reputation in intermediated product
• Chapter 16. Strategic incumbents markets
• Chapter 17. Vertically related markets, vertical restraints and
mergers
• Part VII. R&D and intellectual property
• Chapter 18. Innovation and R&D
• Chapter 19. Intellectual property

© Cambridge University Press 2009 11 © Cambridge University Press 2009 12