COMPETITION AND THE SEARCH FOR AN HONEST BUCK

1. COMPETITION AND THE SEARCH FOR AN HONEST BUCK TIP AVOID ‘PERFECT’ COMPETITION

2. Instructional Goals: You will understand • How to measure consumers' surplus (level one) • What a residual demand curve is (level one) and how to use one (level two)

3. Under perfect competition YOU cannot earn more than a normal return on your investment Characteristics of perfect competition • Perfectly homogeneous goods [corollary: Perfect divisibility of output] • Perfect information [corollaries: No transaction costs, No externalities] • Price taking

4. The only way to earn the highest possible return on your investment is to change markets so these conditions do not obtain or take advantage of situations where they cannot

5. How to measure consumers’ surplus • Demand schedule shows willingness and ability to pay • Supply schedule shows willingness and ability to sell. • Consumer surplus is the difference between what customers are willing to pay and the price paid. It is measured by the area under the demand schedule and above the price line. • Producer surplus is the area above the supply schedule and below the price line.

6. Consumer Surplus

7. Elasticities and the Residual Demand Curve TIP Understand how the elasticity of the residual demand curve shows that a price competitive organization cannot affect price • price elasticity of demand or supply • the demand curve facing a single organization's product or service: the residual demand curve

8. Elasticities of Demand and Supply • The price elasticity of demand at price p and quantity Q is approximately the percentage change in quantity divided by the percentage change in price (∆Q/Q) ÷ ∆p/p) = (p/Q) (∆Q/∆p) • The technical definition of the price elasticity is (p/Q)(dQ/dp) -- always a negative number • The elasticity of supply is the percentage change in quantity supplied in response to a 1 percent change in price --usually, but not always, positive.

9. Computing Price Elasticities Unitary elasticity is where a 1 percent change in price causes a 1 percent change in the quantity demanded, and total revenues remains constant. If elasticity is less than 1, demand is inelastic

10. Price competitive Organizations and the Residual Demand Curve Residual demand curve: the demand curve facing a particular organization Dr(p) = D(p) - So(p) If So(p) is greater than D(p), Dr(p) is zero

11. Residual Elasticity (for a single organization in a competitive Industry) Given n identical orgs in a market, the elasticity of demand facing each i is: i = n - o n/(n - 1), where  is the elasticity of demand; o is the elasticity of supply; (n -1) is the number of other organizations.

12. Example Suppose market demand is Q = 100 -p. What is the market price elasticity of demand? If the supply curve of the individual organization is q = p and there are 50 identical organizations in the industry, what is the residual demand facing any one organization? What is the residual demand elasticity facing each organization at the market equilibrium?

13. Coase Theorem Instructional Goals: You will understand: The importance of property rights The nature of externalities or spillovers The Coase theorem.