nm0754: by a dominant firm i will be getting on to that [0.5] in about ten 
minutes time [0.7] so if you could have that er [0.3] handy for then [0.9] er 
[1.7] and i'll assume everybody has now returned [4.4] i hope you [0.7] might 
recall that the last time i gave a lecture on this which was [0.2] this was 
eleven o'clock last [0.4] Friday [0.3] i was talking about market structure [0.
6] in particular entry conditions and i had got really down to [0.9] the last 
part of this subheading here a ne-, the new industrial organization approach [0.
6] what i want to do this morning is first of all to [1.2] finish that off and 
also to say something about [0.5] perfectly contestable markets [1.1] all under 
the general [0.5] heading of entry conditions [1.2] and then to go on [0.8] as 
i say in about ten minutes time to a very large topic [0.7] er topic five in 
the course outline pricing decisions but i'll introduce that [0.7] er when i 
get there [1.8] you may recall that [0.7] what i said at the end of the la-, of 
my last lecture [0.2] on the new industrial organization approach particular to 
particularly to [0.5] er towards entry conditions and market performance [0.5] 
was that they had laid [0.9] they're essentially gain theories they had laid [0.
9] er [0.3] considerable [0.2] o-, [0.9] emphasis on [0.4] commitment of 
resources by the incumbent firms [1.2] in relation to new entrants or possible 
entrants [0.5] and the credible threats [0.4] to [0.4] the possible position of 
any [0.3] entry that took place that these commitments actually [0.4] made [0.
8] if a firm simply threat-, an incumbent firm simply threatened [0.5] er a 
potential entrant that it would do a number of things to prevent or frustrate 
its entry [0.5] and there was not that commitment there [0.2] then the threat 
would be empty and it would probably be ignored [0.4] by [0.3] the potential 
entrant and they the the entry will actually occur [0.3] to the disadvantage of 
the incumbent firm [0.8] i will give some examples 
[0.8] more specific examples of that er [0.3] as i get into topic er five on 
pricing but for the moment if you simply [0.4] note [0.4] that the new 
industrial organization approach [0.4] put particular emphasis on this notion 
of commitment [0.3] and that that commitment then offered [0.3] credible 
threats [0.2] to potential entrants [0.7] my final point about this approach 
under [0.5] three was that they were or hi-, they continue to be highly 
critical of the Chicago school [0.2] approach to the a-, analysis of market 
structure [0.2] and performance [0.7] in particular [0.8] this group [0.2] 
thinks that the chicag-, the implicit model used by the Chicago school [1.3] is 
oversimplified [0.9] implicitly in much of their ma-, of the Chicago school's 
market analysis is the theory of perfect competition [0.8] and the new 
industrial organization school regards this as highly [0.3] suspect for the 
purposes for which it's put [0.5] er by the Chicago school [1.5] an extension 
to that is that they [0.7] argue that is the new industrial organization [0.6] 
er group [0.4] argue that the Chicago school [1.3] ignores the [0.4] er [0.2] 
fact that in most real world markets information [0.4] is highly imperfect [1.
3] and that that imperfect information [0.5] either particularly on the part of 
potential entrants that they would have far less information available to them 
[0.4] than is available to [0.3] the incumbent firms [1.5] that imperfect 
information [0.2] may make strategies on the part of incumbent firms [0.8] much 
more plausible [0.4] than if you are operating or theorizing in a world of 
perfect information [0.2] if everybody's got perfect information [0.4] the 
Chicago school [0.3] argument may make more sense [0.8] in real world markets 
that information [0.5] er is far from perfect [0.6] and [0.4] er that may 
therefore make [0.2] it possible and logical for incumbent firms to pursue a 
number of strategies [0.5] er to deter [0.3] or coerce [0.5] potential and 
actual [0.3] entrants [0.2] and again i will [0.5] refer back to that point 
when i'm talking about various aspects of pricing policies [0.3] which i'm 
about to come on to [1.2] so they are highly critical of the Chicago school 
particularly for its [0.5] 
oversimplified theoretical approach [0.4] for their [0.2] er assumption that 
there is usually [0.5] something like perfect information [0.2] and if you drop 
those [0.2] assumptions then you can come up with quite [0.3] different 
conclusions [1.0] finally on on this er [0.7] er topic of entry conditions i 
want to mention [0.5] a theory that i'm sure a number of you are already 
familiar with from other courses [0.6] the theory of perfectly contestable 
markets note the word contestable [0.3] not [0.4] competitive [1.1] in fact one 
of the points that i will [0.5] draw to your attention if you're not already 
aware of it is that [0.4] this theory the new one [1.3] [cough] comes to the 
same conclusions as far as the performance of the markets are concerned [0.3] 
as the perfectly competitive model [1.0] but it has some quite [0.5] er 
different [0.2] er [1.1] prediction w-, i-, it the the the structure of of the 
markets involved are quite different [0.3] from those involved [0.4] in the 
perfectly competitive model [2.9] perfectly conte-, a perfectly contestable 
market [0.3] is one where there are zero entry barriers and zero exit costs [0.
7] it's that emphasis [0.5] on zero entry barriers is which is why i 
particularly thought it appropriate to mention it [0.3] in the present context 
[1.9] the notion of zero exit barriers [1.2] implies that the any entrant firm 
to that market incurs zero sunk costs [2.0] so a firm [0.7] th-, th-, th-, the 
theory isn't assuming that a firm doesn't actually have to incur production 
costs if it enters the market but what it is [cough] [0.4] in its perfect form 
assuming [0.6] is that an entrant can come in [0.6] and produce 
without incurring [0.3] any sunk costs there are zero [0.2] entry barriers [0.
3] that [0.6] theory in its perfect form has quite dramatic [0.5] predictions 
[1.4] in particular it predicts that the properties of a perfectly contestable 
market will be exactly the same as those of a perfectly [0.2] competitive 
market [2.6] however it predicts that those results will hold even if you've 
only have [0.5] two or three firms operating in the market [1.2] now that of 
course is quite dramatically different from what you predict from the theory of 
perfect competition [1.8] the theory of perfectly contestable markets is saying 
that if you have free entry and free exit [1.0] you will have in equilibrium [0.
5] prices equal to marginal costs you will have all firms producing at minimum 
unit costs [0.7] they will [0.3] the industry output will be produced at 
minimum cost and they will [0.4] the market would clear [1.1] all consumers 
will be satisfied at a price which is equal to marginal cost [2.2] even if you 
only have two firms [0.3] or three or four firms in the market [0.8] now that 
[0.4] seems at first glance perhaps counter-intuitive [0.6] because one has [0.
2] normally gr-, gr-, grown up with the idea that if you have a highly 
concentrated market that is consisting of only two or three firms [0.4] they 
will in fact [0.2] be able to wield considerable market power [1.2] what is 
driving the whole of that result [0.9] in perfe-, the the perfectly con-, [0.6] 
er testable [0.3] market [0.3] 
er theory what it drives the entire result [0.4] is the free entry and the 
free exit [0.6] without going into too much detail [0.9] essentially what er 
the theory [0.2] predicts is that if the an incumbent firm in such a market 
tries to raise its price above marginal cost [0.6] an entrant can m-, 
immediately appear [0.5] undercut [0.3] that price [0.5] so long as it's in 
excess of marginal cost [0.3] make a profit [0.4] if the incumbent firm 
responds [0.4] to that price cut [1.8] if the incumbent for example drops its 
own price to marginal cost [0.7] then the [0.4] new firm having made a profit 
[0.3] previously [0.3] can then leave costlessly [2.1] the knowledge on the 
part of the incumbent firm [0.4] that that is the case that is if it tries to 
rise its price or if there are two or three or firms [0.4] incumbent firms if 
they try t-, try to raise their price [0.7] it would immediately provoke entry 
[1.0] and the price will then sink to marginal cost [0.3] will mean that the 
incumbent firms will be unable to raise their price [1.0] above [0.4] er [1.6] 
marginal cost [0.8] the significance therefore of the notion of perfectly free 
[0.6] entry and exit [0.6] you can see it's i hope it's significant that here 
was a theory which was saying [1.3] even if you've got very highly concentrated 
oligopolies [1.1] if these conditions hold [0.4] then you needn't worry there 
are there are very few policy [0.4] policies you need adopt towards such 
industries because they will [0.3] produce a performance which is [0.3] in line 
with that of a perfectly competitive market [0.8] the problem with the theory 
[1.9] [cough] is well sorry before i get on to that let me simply emphasize [0.
5] that the theory first made its appearance in the late seventies by the early 
eighties [0.5] it had [0.4] it had already been fed in to policy decisions in 
the United States and by the mid-eighties [0.5] it was having an influence on 
policy decisions in Britain as well [0.6] in a white paper in the middle of 
nineteen-eighties for example [0.4] on the [0.5] er deregulation of the local 
bus markets [0.2] the notion of a contestable market [0.5] was [0.4] er 
actually used and it was discussed at some length the argument being that these 
markets were [0.3] contestable and therefore [0.3] er [0.4] they would be put 
in a competitive performance [0.5] notice [0.7] i there said contestable [0.2] 
rather than perfectly contestable [0.7] the problem [0.5] as it arose in the 
debate in the uni-, over this in the United States [0.6] was that a number of 
policy makers were saying well [0.4] these markets are approximately 
contestable [0.6] 
therefore there is no need for us to worry [0.3] particularly in civil 
aviation which the Americans were deregulating at that time [0.9] a lot of 
mergers were proposed [1.1] under the influence essentially of this theory of 
perfectly con-, perfect contestability [0.5] the authorities then said well [0.
2] although this [0.3] these mergers will concentrate the industry or the-, 
they will concentrate these particular [1.2] parts of the [0.4] of the market 
[1.4] we will not intervene to try to prevent these mergers or look at them 
more closely because we are advised that these are contestable markets if you 
[0.5] if an entrant [0.3] i-, if they try to raise their price [0.4] after the 
merger [0.2] entrants would come in and drive the price down [2.0] 
er [1.2] so [0.5] it's a relatively recent theory it has an almost im-, [0.5] 
er immediate impact on policy discussions both in the United States and in 
Britain and elsewhere [0.5] the notion of contestability has passed very much 
into the economic literature [0.9] the problem with it all however is that the 
theory is non-robust [0.9] i'm using that term [0.4] in its technical sense [1.
2] any scientific theory to be robust [1.2] has to have the following 
characteristic [1.2] that if you [0.8] if the assumptions of the theory [1.3] 
do not hold completely [0.2] or perfectly [0.2] but they hold approximately [1.
7] then for a theory to be robust [0.2] under those circumstances the 
predictions [0.5] must only change slightly [1.0] you could say that the theory 
of perfect competition is a robust theory because [0.3] if the assumptions [0.
3] are not met completely but approximately in such a theory [0.4] the results 
don't change very much [1.0] you still get [0.6] prices approximately in line 
with marginal cost [0.4] in the theory of perfect competition [0.7] if the 
assumptions don't hold completely [0.9] so a robust theory is one where if the 
[0.2] assumptions don't hold perfectly but approximately the predictions don't 
change very much [1.3] my [0.4] er [0.2] critique or er th-, the critique of 
others as well [0.3] 
about the theory of perfect contestability [0.6] is that if you change the 
assumptions slightly [1.5] the predictions change dramatically it's very 
unstable [2.0] let me give you an example of how [0.6] what i mean by that [2.
1] if fo-, let us say in a particular market which a number of people have said 
is contestable [0.8] if [0.7] there are inevitable delays [1.1] between a firm 
announcing that it's coming into the market and it actually [0.5] managing to 
[0.2] produce [2.4] and if in coming into the market [0.6] the f-, the entrant 
has to incur [0.4] some sunk costs they can only be they only need be slight [0.
2] sunk costs [1.1] so if there's a delay a slight delay between saying i will 
come into the market the firm has to build up its capacity [1.1] there's a 
delay between the announcement and the actual production [0.5] and also [0.4] 
if [1.4] there are some slight exit costs sunk costs [0.6] incur for the firm 
has to incur to come into the market [0.6] then the predictions of the the 
model [0.7] are dramatically different [1.7] 
an incumbent firm in such a market [0.4] can charge the monopoly price [0.5] or 
if it's two or three firms they can charge [0.3] near the monopoly price [0.8] 
they can charge near the monopoly price [0.7] until the entrant appears [1.0] 
they can then immediately drop their price to marginal cost [1.6] the entrant 
[0.5] having [0.2] finally come in to production [0.9] would then make no money 
[0.3] in fact it would make a loss it would make a loss equal to its sunk costs 
[1.6] if the entrant is aware of that [1.3] it would not come into the market 
[2.0] so the sequence is this that [0.8] with slight alterations i-, if the [0.
6] the notion of a perfectly contestable market is not met if you make slight 
changes in the assumptions even though the market may be approximately [0.9] 
contestable [0.6] it may has a dramatic difference in the prediction because it 
means that the incumbent firms [0.2] will continually be able to charge [0.3] 
something approaching a monopoly price [0.3] entry will not occur because the 
entrants will say [0.8] i will have to incur slight sunk costs to get into this 
market [0.5] and i won't be able to recover them and i won't make any money 
because as soon i appear and produce [0.3] the price will collapse to marginal 
cost [2.0] now [1.2] the emphasis in this theory on sunk costs i think is 
important that's possibly its most important contribution [1.4] i'm really i 
suppose offering you a warning that whenever you see [0.5] er contestability or 
contestable markets mentioned in the literature [0.3] ask yourself the question 
[0.4] is this a fudge [1.9] is the person talking about [0.2] market X as being 
contestable do do they mean that it's approximately [0.4] contestable in which 
case [0.5] you need to ask the further question what does 
that actually mean does it mean that the firms are able to charge a near 
monopoly price [1.3] because [0.2] as i've indicated [0.4] the theory is non-
robust and [0.4] er [0.3] the predictions [0.6] are [0.4] or can be very 
dramatically different if you alter the [0.2] assumptions only slightly [0.3] 
from the perfect [0.2] case [0.7] the reason for emphasizing that [0.6] er [0.
4] is that it has had a very im-, wide impact on the literature i'm sure that 
you've [0.4] in your microeconomics for example you may well have encountered 
discussions of this [1.0] as a [0.4] an abstract theory the the notion of 
perfect contestability works [0.4] but as soon as you move away from the [0.5] 
perfect the the the [0.2] [cough] perfect version of it [0.8] the predictions 
[0.2] go all over the place [1.6] entry conditions therefore are quite crucial 
[0.3] in the predictions [0.3] for [0.3] market [0.8] conduct and market 
performance [0.9] 
what i want to do now is to go on to a very large topic indeed [0.3] this is 
topic five [0.7] on [0.6] page two of the course outline [0.9] pricing 
decisions [2.5] and [0.2] it is a very large topic and i want to [cough] [2.0] 
deal with it under two main headings i'm assuming that you have [1.1] a pretty 
good knowledge of let us say the theory of simple monopoly the theory of 
perfect competition [1.5] i'm going to be dealing with [0.4] essentially with 
two forms of imperfect competition [2.4] and i'm going to [3.2] divide that up 
essentially into [3.7] a market structure which i will characterize as being [1.
9] a structure with one dominant firm [0.5] and i'll say a word in a moment 
about what i mean with [0.2] by dominance as opposed to monopoly [1.4] there 
are var-, a number of variations on the theme of pricing in dominant markets 
which i've listed here [0.3] all of this incidentally will take me quite a long 
while to get through so there's no need to make a note of [0.3] all of it now 
[0.4] i think perhaps if you went down to there for the moment [0.4] that would 
cover what i'm going to say this morning [1.4] er [7.1] so the first market 
structure [2.1] concerns [1.8] not monopoly but something approaching that [0.
6] er a market structure with a dominant firm [0.3] the second one w-, the 
second group of [0.6] er [0.3] markets that i want to talk about which is not 
on this er slide but which will be on another one [0.7] is oligopoly [0.4] 
which you're a-, familiar with i'm sure from microeconomics in a general way [0.
4] i will make [0.8] er that much more precise when i come on to it but it 
forms the second group [0.3] of [0.3] topics within this general [0.4] under 
this general heading [0.4] of pricing decisions which if you look at the course 
outline [0.4] gives under the subheading two pricing problems in oligopoly [2.
4] what do i then mean by the di-, or making the distinction between dominance 
and monopoly we all know what a monopoly is that it's a 
single firm case where [1.2] the firm is in sole control of a market and it's 
protected by [0.4] such high entry barriers that its position is [0.6] er [1.0] 
not vulnerable to competition [0.2] and the f-, and we can then analyse i-, 
from the simple theory of monopoly what the [0.3] predictions about price and 
output will be [1.2] as i've said in some contexts er [2.7] already [4.3] er [2.
6] it's very rare in the real world for firms to be in that happy position of 
being a complete monopoly [0.6] in the real world you very often however [0.2] 
have an approximation [0.3] to [1.1] dominance [0.9] er [0.6] for example [6.3] 
seem to have lost my example at the moment oh here we are [2.7] i undertook a 
study in the middle eighties from er a large number of monopolies as it was 
then called the monopolies and mergers commission [0.4] and i was quite it was 
quite easy for me to find twenty-two markets this er the the period covered was 
the middle seventies to the [0.2] middle eighties [0.8] it was quite easy to 
find a number of markets that they had investigated where the first firm had [0.
8] a share of fifty per cent or above in some cases it was much higher than 
that it was sort of eighty or ninety per cent [0.9] and the second largest firm 
or firms were were more than ha-, [0.6] were only half or less of the size in 
terms of market share [0.3] of the dominant firm [1.4] so although in many 
cases [0.3] er in the real world you don't have monopoly you only have those 
usually in the case of natural 
monopoly [0.5] the notion of dominance as i want to use it [0.2] is quite 
frequent [1.0] you do [0.3] frequently find [0.2] one firm with a very sizeable 
market share [0.3] as a rule of thumb if you like [0.6] upwards of fifty per 
cent of the market possibly much higher than that [0.6] and where the second 
largest firm is much smaller [0.4] with a a share of [0.3] perhaps under ten 
per cent or a number of firms [0.3] all of whom have quite [0.2] small [0.5] er 
market shares [0.8] now my [0.2] er i will therefore mean by dominance that 
sort of market structure [0.4] the size distribution of firms is highly skewed 
you've got one firm [1.3] in pretty much in command of the market but a number 
of other firms [1.3] operating in the market [0.3] in competition [1.5] that [0.
4] market structure can be [0.3] modelled by [0.5] the dominant firm and the 
competitive fringe [0.2] case [1.6] an example of which i have given round as a 
diagram and which i want to say something [0.5] er about now [7.8] the 
essential questions that i want to address in talking about this model are the 
following [0.2] and this is exactly the [0.3] diagram that you should have in 
front of you [2.2] the sort of questions i want to address are these [1.9] to 
what extent is a firm [0.3] in this dominant position to what extent is it 
constrained in its pricing behaviour [2.2] by the presence of the the smaller 
fringe of firms [1.0] and what strategies does it have for trying to control 
that fringe to its own advantage [3.1] right well this [0.4] diagram which may 
at first glance look extremely complicated does [0.3] or can be broken down 
into s-, i hope [0.2] some fairly straightforward components [1.1] we start out 
with the line M-D which stands for market demand [1.9] the related marginal 
revenue curve or line is denoted [0.3] M-R [3.3] the l-, the horizontal line [0.
3] M-C-D is the marginal costs of the dominant firm [2.6] so you've got a 
market demand curve its related marginal revenue curve [0.2] treating [0.6] or 
[0.2] on the assumption for the moment that we have a monopoly [2.6] our 
dominant firm's marginal costs are horizontal a-, at er M-C [0.4] but they are 
made horizontal for to make the diagram rather simpler than it would be if we 
had a curve [0.2] doesn't actually affect [0.3] the result [1.0] now let's 
start with the position let's suppose that this is not a dominant firm it's a 
monopoly [1.4] if it was to charge a simple monopoly price [0.3] then on well 
known principles it would seek out this equality here between marginal revenue 
and marginal cost [0.4] and the monopoly price is P-M [1.6] and as a monopolist 
it would charge [0.6] Q-M for that output [2.9] 
now that's if you like the starting point [0.2] remember on-, one of the 
questions i wanted to pose of this model is well [0.2] how is the behaviour of 
such a firm constrained by the presence of a fringe [0.2] small much smaller 
competitors [2.5] we've now got a line [0.3] er [0.3] an upward sloping line 
marked S-F which s-, stands for the supply by small fringe firms [3.1] 
that is upward sloping for [0.3] normal supply reasons that is if the price is 
higher it th-, th-, [0.3] th-, the price that the output can command is higher 
more will be supri-, supplied [2.0] we can note as well that if we look at the 
point P-zero or P-O [0.3] on the vertical axis [1.5] at a price below that the 
fringe doesn't supply anything at all [1.7] in other words the fringe [0.6] 
fringe's costs are higher [0.9] than the costs of the dominant firm by 
assumption [3.7] at a price P-zero or below they will supply nothing [1.4] 
let's look at a pr-, at er [0.3] the [1.0] the equivalent point [0.5] on the 
demand curve opposite P-F
in this diagram [0.3] which i'm [0.6] showing by the position of my pencil at 
the moment [1.0] we trace that through onto the demand curve if the price rose 
to P-F [1.0] the implications from basic analysis is that the fringe at that 
price would be supplying the whole [0.3] output the whole market it would be 
supplying enough to clear the market [0.3] at the price [0.3] P-F [2.7] for our 
purposes therefore the relevant price range [0.4] is P-F [0.6] P-0 [0.5] over 
that range [0.9] the fringe [1.5] supplies part [0.5] or all in the limit [0.5] 
of the market [1.6] and it's upward sloping as i've indicated because the pri-, 
the higher the price the more will be supplied [1.6] we make the further 
assumption now given this structure that we if we had our dominant firm [0.7] 
with the fringe [0.8] the dominant firm [1.7] makes the price [1.3] it 
optimizes given the presence of that fringe [0.8] the fringe suppliers because 
they're so small by assumption [0.3] simply take that as a para-, parametric 
price they can't affor-, er can't er affect it [0.9] they will simply supply 
according to that [0.6] er as if you if you 
like as a fixed market price [0.4] depending on what price has been fixed [0.4] 
by the dominant firm [2.1] now [0.7] what how therefore does under those 
assumptions and this er market structure how does the dominant firm determine 
its price and output [0.8] well the line that i have marked in this diagram as 
R-D which is this line here [2.2] this is that stands for residual demand [1.6] 
and it is simply the market demand [0.4] minus [0.9] whatever amount at the 
price specified is supplied by the fringe suppliers [2.3] the line R-D [1.5] is 
residual demand [1.3] we are taking away from the market demand [0.5] the 
amount supplied by the fringe [0.3] suppliers [0.3] to leave us with a residual 
demand R-D [2.6] that is the demand [0.5] given the presence of the fringe [0.
5] that is the demand on which the dominant firm optimizes [3.4] related to 
that curve or line R-D is the residual marginal revenue curve M-R-R in the 
diagram [3.6] so we've got the dominant firm [0.7] taking account of the fringe 
suppliers [0.8] it goes through or in in [0.5] er in principle [0.4] it goes 
through the mental process of 
actual subtracting from the market demand [0.2] what [0.4] the fringe will 
supply and then optimizes [0.5] er [0.8] on that residual demand curve [0.4] we 
can then proceed [0.4] to see what the the dominant firm does this is still its 
marginal cost [0.4] this is now its marginal revenue [0.6] so the relevant 
intersection [0.4] is this point here [3.3] on the residual demand curve that 
implies because it's directly above the intersection of marginal cost and 
marginal revenue [0.4] that implies [0.2] a price of P-R [5.4] the dominant 
firm is optimizing given its marginal cost [0.7] and given its relevant 
marginal revenue which is M-R-R [0.3] the relevant intersection is at this 
point here [3.0] reading off from the demand curve [0.2] the optimizing for the 
monopolies the optimizing price [0.5] is P-R [2.1] you may well say well the 
market won't the whole market won't clear at that price [0.5] because if this 
firm is only supplying Q-R at that which it would do the dominant firm [0.4] is 
only supplying Q-R [1.5] at that price an amount Q-S is demanded [1.1] well of 
course the gap [0.9] this [0.4] dashed line 
here [1.3] the gap is filled [0.3] by [1.0] the fringe [0.3] they [0.3] account 
for [0.3] an amount of the supply Q-R-Q-S [2.0] and the market will clear at 
the price P-R [0.6] so what we've got [0.5] is the dominant firm producing Q-R 
[1.0] optimizing its position i-, its position [0.3] given the constraint [0.7] 
offered by the fringe suppliers [1.4] the fringe suppliers will [0.7] take that 
market that that price has given [0.3] they're not going to try to effect it 
because they're too small in relation to the total [0.4] they supply Q-R-Q-S [3.
8] what we can note about this is compared with the [2.1] simple monopoly case 
[0.7] where we had a price of P-M and an output Q-M [0.5] the price [1.1] 
because of the presence of [0.5] apparently insignificant small firms the price 
is [0.3] quite different the price has dropped to P-R [2.2] and the amount 
supplied by the fringe is is as i've indicated so the price is quite amoun-, an 
amount lower [0.4] as a result of the presence of the fringe [0.3] and of 
course the amount sold [0.4] is lower [0.5] consumers therefore undoubtedly 
benefit from the presence of the fringe even
though [0.7] they may appear on the face of it to be [0.2] rather [0.2] 
insignificant [2.1] let me stop there for a moment and ask if anybody [0.4] 
wants me to go through any of that again because i know at er first [0.4] this 
is your first [1.1] look at that it it's quite complicated [0.6] does anybody 
want me to go through any of it again [1.9] yes can you pinpoint [0.2] where 
you would like me to [0.3] to go through [0.4] 
sm0755: yeah just [0.2] one small bit i didn't catch [0.2] why the range 
between P-nought and [0.5] P-F i understand the lower range being P-nought but 
not [0.2] why the upper range should be P-F [1.3] 
nm0754: well o-, the the upper range [0.3] er it where the supply curve of the 
fringe cuts the demand curve [0.4] on basic [0.3] supply and demand principles 
[0.3] the fringe would simply be [0.3] would would sell [0.2] er [1.1] well it 
a-, it it looks as if it's a-, almost identical with Q-R but that was an 
unintentional [0.5] the fringe would supply the entire market demand at a price 
as high as P-F [1.7] and the lower level as is as you've [0.4] indicated is 
simply [0.2] that as its costs are higher [0.9] at a price P no-, P- [0.4] O or 
below it doesn't supply anything a-, they they don't supply anything at all [1.
4] yes 
sf0756: just ask what was residual demand is that for 
nm0754: no [0.2] it's [0.2] it's [0.2] the the do-, the er the mental process 
we assume that the
the dominant firm goes through is this [0.4] i know roughly what the market 
demand is [0.7] i know what the fringe will supply [1.4] i will subtract from 
the market demand what the fringe will supply if i charge [0.8] this price [0.
7] and then i will optimize [0.2] on that [0.4] resulting demand cu-, or or 
residual demand curve [0.2] 
sf0756: so it's the dominant curve [0.4] 
nm0754: so it's the des-, dominant firm er residual demand curve [0.3] it then 
chooses its its optimum price [1.1] and the fringe will then fill if you like 
fill the gap 
sf0756: rest 
nm0754: yes [1.5] er [1.5] now [2.5] some observations on that model [3.1] if 
you like juxtaposing [0.5] some fairly casual empirical observations with the 
theoretical model [0.9] one of those is this that it's been observed over quite 
long periods of time [0.6] that dominant firms once they have achieved a 
position of dominance tend to be around for a very long while [1.2] they [0.4] 
their market share may decline [0.9] er over time and i'm now talking about 
very often decades rather than just a sh-, few months or [0.3] even a couple of 
years [0.7] their market share may decline
over quite a long period of time [0.3] but on the whole there are some [0.2] 
spectacular exceptions but on the whole [1.0] dominant firms once they've 
achieved a position [0.8] a-, as i've been talking about in their market [1.2] 
they don't give up their dominance very easily [0.8] some firms [0.2] er in w-, 
er in our [0.3] theoretical terms er in our fringe [0.3] may encroach [0.3] on 
the be able to encroach on the position of the dominant firm [0.5] but their 
ability to do that ap-, apparently from the historical records seems to be 
quite [0.5] er limited [1.8] in addition to that we must reckon with the fact 
that the dominant firm may have as long as it can get away with it from a 
policy perspective [0.4] may have a number of strategies open to it [0.4] for 
ensuring that [0.3] even if its market share has declined for a 
little while over a few years [1.2] it can try to regain that [0.6] er position 
[0.9] er by using a number of strategies [1.1] er the most extreme of those i 
suppose until quite recently [0.4] was the dominant firm in the British s-, er 
cement industry [0.4] where er [0.3] for for a number of [0.2] er extraneous 
reasons [0.2] the market share of this dominant firm is known for a very long 
period indeed throughout [0.5] er the nineteen-hundreds [0.6] er sorry 
throughout the from nineteen-hundred to the year [0.5] about nineteen-eighty 
nineteen-ninety [0.5] its market share [0.9] almost remained unchanged what 
happened was that this dominant firm [0.6] achieved its dominance through er a 
massive merger in just prior to the First World War [0.9] it had er a very 
large market share then it started declining [0.2] somewhat [0.2] what it did 
was to [0.2] to o-, over a number of decades it simply [0.2] when that happened 
it simply acquired its nearest rival [1.4] now you could say well that is now 
that sort of behaviour is now constrained [0.4] by er competition policy and 
that would be [0.2] correct [0.7] but it seems to have 
been able to get away with that strategy for a quite long while so even though 
the [0.4] the fringe if you like [0.2] er in that market was [0.8] the the the 
w-, the the amount to this [0.5] er fringe supply curve [0.4] getting more 
elastic the fringe would be supplying more and more [0.5] to recover its 
position [0.3] in that example the firm simply acquired [0.5] its nearest rival 
[0.3] so one way of retrieving [0.2] its market share was by acquisition [1.8] 
er [cough] another way of shifting this curve [0.2] to the dominant firm's 
advantage [0.3] may be for example [0.2] if the dominant firm [1.2] in a sense 
overbuys a crucial input [0.2] both the dominant firm [0.8] and [0.3] the 
fringe firms may have to sup-, [0.3] have to use certain crucial inputs [1.1] 
if the dominant firm deliberately as a piece of strategy [1.0] buys up in any a 
particular time period more than it knows it's going to use for its own output 
[0.4] that will tend to push up the price of that input [0.5] and raise the 
cost not only to the dominant firm [0.5] but to the fringe firm [0.3] and you 
may say well [0.7] why push up its own costs [1.2] i-, i know 
that the fringe firm's costs are er rising as well but why do that surely as a 
piece of strategy it seems very shortsighted [0.3] but as far as the dominant 
firm is concerned [0.5] it can do a rough calculation [0.6] that if it can 
impose on the admitted-, already higher cost fringe firms [0.5] greater burdens 
than itself [0.2] 'cause as the dominant firm it may be more capital intensive 
[0.5] and these may be [0.5] er [0.3] variable costs rather than fixed costs [0.
2] so long as the [0.3] amount of cost increased that it can impose [0.2] on 
the fringe [0.3] are greater [1.2] than on itself [0.5] and if it does retrieve 
[0.3] its market share [0.2] in so doing that is it therefore generates more 
revenue [1.1] it will be worthwhile it doing that [0.3] 
so one way of shifting [1.0] the fringe supply to its own advantage [0.3] would 
be to overbuy [0.2] on a crucial input [1.3] thus pushing up the price both to 
itself [0.3] and to [0.4] er its fringe rivals but so long as its retrieval of 
its market share [0.3] generates an a-, increase in revenue greater than the 
increase in cost for it [0.4] it will be worth its while [1.7] another more er 
[0.3] the same sort of strategy might be for the dominant firm to try to press 
[0.3] through lobbying [0.5] for [0.5] a change in the regulations for example 
governing the industry [1.0] which may have a greater impact on the smaller 
fringe firms than on it as the established dominant [0.2] firm [1.4] there are 
a number of ways [0.2] that it might be able to do that [0.2] for example if 
the change regulation affects [0.3] only new entrants [0.3] rather than 
established firms [0.2] their costs [0.3] may be [0.2] higher [0.6] or the 
increase in cost may be 
higher [0.2] than the increase in costs for the dominant firm [2.6] a number of 
strategies might be possible therefore for changing [0.4] the [0.5] er the 
position of this fringe supply [0.2] if it's successful what that would mean [0.
2] is that it would be moving up in that direction it'd be rising [0.7] so that 
at each price [0.2] the fringe will be able [0.2] to supply [0.3] less [0.8] if 
the dominant firm is successful [0.7] er [0.7] in raising [0.9] both its own [0.
3] and [0.2] costs to the fringe [1.8] as another piece of strategy it might 
attempt to shift the residual demand curve we talk-, i talked about [0.3] 
shifting [0.5] the fringe supply curve [1.2] what it might also try to do is to 
[0.2] shift [0.2] the residual demand curve [2.4] it might do this and this 
will depend of cou-, to a s-, er a large extent on the nature of the product [0.
2] it might do this by undertaking for example a very heavy [1.0] er 
advertising campaign to swing demand towards its product away from the products 
of the fringe supply [0.7] now that what that would do [0.2] would be to push 
out the [0.4] residual [0.2] demand curve [0.3] meaning that it 
would comm-, not only command a higher price [1.5] but the dominant firm would 
supply more of the market [0.6] than [0.2] previously [1.8] and again [0.3] as 
long as the [1.0] shift in the demand which would generate more revenue for the 
firm the dominant firm so long as that is greater [0.7] than the increasing 
cost that it's incurring through in my example the advertising [0.3] it would 
pay it [0.3] to [0.4] er to do that [2.5] as an alternative [0.3] to [0.2] that 
sort of strategy [0.4] that is in in shifting [0.6] directly shifting the 
residual demand or the fringe supply [0.4] much more aggressively [0.3] the 
dominant firm and i think i'm er i [0.7] hinted at this a-, in my one of my 
earlier lectures [0.5] the dominant firm may actually [2.8] decide to [0.7] try 
to exploit much more aggressively the learning curve you remember i mentioned 
that [0.5] in some industries not by no means all but in some industries 
learning effects are very very important [1.5] the dominant firm may therefore 
try to move very very rapidly down that learning curve which implies that it 
would charge a very low price [1.1] now 
in the limit in our [0.5] theoretical scheme of of the such a market [0.6] it 
may actually push the price towards or at or near P- [0.2] 0 [0.6] in which 
case [0.4] the amount of fringe supply would be very very small [1.6] note that 
by assumption i don't think it's a [0.6] er it's not a very imp-, i think it's 
very plausible assumption [0.3] the assumption however is that the dominant 
firm has lower costs to start with [1.5] if [0.3] and we'd have to change [0.5] 
in my learning curve case [0.3] we'd probably have to ma-, [0.3] draw a 
different sort of marginal cost curve [0.7] but if there are important learning 
effects [0.3] the dominant firm may be able t-, or may [0.7] er mo-, or try to 
move very rapidly down that [0.3] learning curve [0.2] charge a very low price 
[0.4] which means that the fringe supply [0.6] er would be the {st}fringe 
suppliers would be struggling [0.3] and their [0.5] er [0.8] market share [0.2] 
would be reduced [1.9] important [0.2] questions i will leave you with because 
i want to take it up bit later on in a later lecture is this [0.5] if the 
dominant firm did see it is it in its own interests as [0.3] 
as charging a price below P-zero [0.4] or P-O in this diagram [0.9] if it 
decided that it would be in in its own interests in the short run to price 
below P- [0.3] O [0.4] is that predatory [1.3] is it [0.4] anti-competitive [2.
2] and i will take up the question [0.4] of er [2.2] predatory behaviour in a 
subsequent lecture in more detail and try to [0.5] address [0.2] that question 
which for the moment [0.4] i will leave you with [0.7] let me sum up then on 
the [0.4] er outcome of a model of this kind [1.8] the prices [0.3] if you have 
a structural of of market where you have a dominant firm and a fringe supply 
the prices [2.5] with the fringe are lower [cough] than without the fringe [0.
2] and of course the output is therefore higher [0.4] consumers therefore 
benefit [9.6] historically [0.7] it's the second point historically [0.6] 
dominant firms' shares have tended to erode but that erosion [0.2] is very slow 
[0.5] generally [2.7] even if they can't [0.3] use mer-, the merger route to 
reclaim their or regain their market share [2.7] because of competition policy 
[0.6] they may be able to recover [0.2] their market share [0.3] more [0.4] er 
[0.2] subtly if
you like [0.5] by [0.3] trying to shift either the fringe supply curve [0.3] or 
the residual demand curve [2.6] my final point on that is that in the same 
study which i referred to earlier on this morning [0.8] er [0.2] over a quite a 
long period it varied a little bit but it was something of the order of forty 
or fifty years in a sample of nineteen [0.4] dominant firms defined in the way 
that i defi-, [0.3] i mentioned earlier on [0.5] that is the dominant firm had 
fifty plus [0.3] share of the market [1.6] thirteen of those shares declined in 
this thirty to forty year period [1.0] or remained unchanged [0.2] [cough] 
within a [0.2] percentage point or two thirteen of [0.2] a sample of [0.4] 
nineteen [1.2] declined or remained unchanged [0.9] and six increased [0.4] in 
this period [0.2] so these they were already dominant [0.3] they increased [0.
2] their share [1.5] the final point [cough] i will make on this [0.4] er from 
that same study is that [0.5] in each case even though they declined [0.5] they 
remained the market leader [1.3] so i will leave you [0.2] with [0.2] two 
things [1.2] dominant firms take a long while to decline but they re-, [0.2] 
tend to re-, 
even if they do decline they retain their dominance or their [0.3] leading p-, 
position in the market [1.3] secondly [1.1] which i will open with er next 
Friday second question [1.3] if dominant firms remain a-, around a long while 
and apparently their market share only declines fairly gently [1.7] in addition 
to the strategies that i have already mentioned are there other strategies that 
they can use [0.4] to [0.2] prevent [0.2] their share from eroding from new 
entry [0.6] and the question i will address at the beginning of next time [0.2] 
is precisely that [0.4] is it [0.2] logical for example for dominant firms [0.
2] to use limit pricing that is [0.5] to charge a lower price in the short run 
[0.6] to deter entry [1.4] in order to maintain a higher profits [0.4] for 
themselves in the long run [0.9] and i will stop there