- we expect you to prepare each lecture
- watch video lecture beforehand
- prepare exercises to be discussed in class
- follow the datacamp lectures on python
- for next lecture: install python
- look here to see how this should be done
- your grade is the average of
- 2 assignments
- 1 exam
- class and datacamp participation
- each has the same weight (25%)
- assignments are mandatory and involve programming in python
- class participation is mandatory and involves exercises from previous exams
- part of the class participation is finishing the datacamp course in time
- grades for assignments and class participation can only be used this academic year
- assignments can be done alone or in a team of 2 students
- for the programming assignments, you will do simulations
- next lecture will be an introduction to python
- during the other lectures, we will also show you how to program in python
- attend (on the web) the datacamp courses on python and finish the course in time!
- we know this is new for (most of) you
- with python we can bring the theory to life
- as python is new, you are allowed to help each other a bit with this
- however, assignments are made independently by each team
- good idea to look into python in the following weeks
- when you get stuck, you can google
- but some basic knowledge saves you a lot of time!
- with python notebooks you can program and explain what you do in the same file
- learn a bit of markdown and latex
- EU law is structured as follows:
- Article 101: agreements between firms
- horizontal agreements: cartels, collusion, joint ventures
- vertical agreements: manufacturer and wholesaler or wholesaler and retailer
- Article 102: abuse of a dominant position
- price discrimination, predatory behavior, tying and bundling, refusal to supply
- Merger Regulation: when one firm plans to acquire another firm, the Commission has to be notified
- economists tend to believe that markets work well
- welfare theorems: Pareto efficient allocations
- why do we need a competition authority (CA)?
- welfare theorems assume firms are price takers
- in real world firms have (market) power to set prices
- first year micro: monopolist setting prices leads to deadweight loss
- under total welfare standard: welfare loss equals deadweight loss (\(DWL\))
- under consumer welfare standard: loss equals \(DWL+PS\)
- CA tries to prevent monopolies from emerging through mergers
- when firm is dominant, CA tries to prevent firm from abusing this position
- EU and US tend to put more emphasis on CS than on PS
- firms can fight for themselves
- harder to organize consumers because of free riding problems
- against: consumers are also shareholders
- EU every now and again states as a goal promotion of market integration
- political objective; hard to formalize in economics
- EU forbids price discrimination across national borders
- but from economic point of view can be welfare enhancing
- Nickell (JPE, 1996): firms with market power are less efficient
- with market power, less reason to "worry"
- moral hazard: more competitive the market, firms and managers work harder to survive
- selection: with market power, inefficient firm can survive; cannot happen in a competitive market
- Aghion et. al (QJE, 2005) find that more competition leads to more innovation
- Michael Porter (1990): competition is necessary to stimulate firms to innovate
- patents give firms incentives to innovate
- ex post we lose welfare but we gain ex ante through the introduction of products
- Government can regulate a monopolist: ACM (formerly, OPTA) regulates KPN
- Coase: durable good monopolist competes with itself
- if monopolist cannot commit, reduce prices over time
- \(p=mc\) with monopoly
- contestable market: firm may be only seller but \(p<p^m\)
- potential entrants discipline the firm
- barrier to entry is formed by sunk entry cost (not fixed cost)
- taxi market: entry cost is not the price of a mercedes; can be resold
- Mankiw and Whinston (RAND, 1986): two externalities market entry
- business stealing effect: excess entry
- appropriability effect: too few firms enter
- Outperform other firms:
- \(n \geq 2\) firms compete in prices, \(i\)'s cost function: \(C(q_i) = c_i q_i\)
- \(c_1 \leq c_2 \leq ... \leq c_n\)
- \(c_1 < c_2\) implies 1 is monopolist, \(p_1 = c_2\)
- switching costs: offer frequent flyer miles or coupons for loyal customers
- if customer gathered enough miles, optimal to keep on using this airline
- though consumers love loyalty schemes, they create market power and lead to higher prices
- network effects: network effects keep incumbents in the market when there are superior (potential) entrants
- exclude rivals:
- incumbent beer brewer sells to pubs and restaurants if they only sell incumbent's beer brands
- raises entry cost for newcomers
- consumers value both intrinsic quality of product and how many other people use it
- this is different from consuming ice-cream
- when you decide on your operating system (Linux, Mac, Windows); relevant how many of your friends use the same os
- utility good \(i\): \(u_i = v_i + \nu(n_i) - p_i\)
- \(1\) is incumbent product with \(n_1 >0\)
- new product 2 with \(v_2 > v_1\) but nobody uses it yet
- even with \(p_2 = c_2 < p_1\) can be that \(v_1 + \nu(n_1) - p_1 > v_2 + \nu(0) - p_2\)
- network effect gives incumbent market power
- small differences at the start lead to completely different outcomes
- not much damage can be done by firms that are small players
- if two firms with each a market share of 1 percent want to merge, no reason to block such a merger
- but when Microsoft or Google act suspiciously, we do worry
- market share is important in competition policy cases
- market share \(=\) firm's revenue divided by total market revenue
- but what is the total market?
- if you sell apples, is the relevant market apples or fruit?
- economists do not tend to worry about relevant market
- find out directly whether a merger leads to higher prices; whether a practice is welfare reducing
- European Courts do require a definition of the relevant market
- guiding principle: "a relevant market is worth monopolizing"
- relevant market is a collection of products and regions such that a (hypothetical) monopolist would be able to increase prices profitably (but from which benchmark?)
- contains all substitute products and regions which provide competitive constraint on the products and regions under consideration
- you wonder whether bananas in the Netherlands form a relevant market:
- ask: if there would be a (hypothetical) monopolist on the Dutch banana market, would she be able to profitably raise prices by 5 to 10 percent (ceteris paribus: assuming all other prices remain constant)?
- if so, bananas in the Netherlands is a relevant market (perhaps bananas in Brabant is already a relevant market)
- if not, expand the market and see whether on this expanded market a hypothetical monopolist would be able to profitable raise prices
- demand side substitution: if consumers would switch from bananas to kiwis after the price increase, the question becomes whether bananas and kiwis together form a relevant market
- supply side substitution: if suppliers of banana liquor would start to sell bananas after the price increase, question becomes whether the combined market of bananas and banana liquor form a relevant market
- geographic market: if consumers would start to buy bananas in Belgium after the price increase, the question becomes whether bananas in the Netherlands and Belgium form a relevant market
- question is: is the market under consideration worth monopolizing?
- relevant market is smallest set of products worth monopolizing
- this is known as SSNIP test: small but significant non-transitory increase in prices
- "small but significant" is often taken to mean 5-10%
- "non-transitory": if this could be profitably done for 5 days only, the market is not worth monopolizing
- in economic terms, relevant question concerns elasticities
- if price of \(x\) is increased by 10%, by which percentage does demand fall? e.g. because consumers buy outside the region
- if drop in demand is big, price rise is not profitable; market for \(x\) is not worth monopolizing
- or by which percentage does supply increase?
- applying SSNIP test can lead to two "famous mistakes":
- toothless fallacy: marginal vs average consumer
- cellophane fallacy: starting point for price increase
- Commission in United Brands case: defining relevant market on the basis of the average consumer
- Commission argued that very young and very old (those without teeth) did not consider other fruit a substitute for bananas
- Commission concluded that bananas is a relevant market
- however, when a (hypothetical) monopolist raises its price, question is not whether average consumer moves away, but whether marginal consumer substitutes away
- if enough consumers at the margin substitute away, price increase is not profitable (although a number of consumer may be captive)
- some people do not like sparkling water; for them still and sparkling water are not substitutes
- yet, still and sparkling water are on same relevant market if enough consumers (at the margin) switch from still to sparkling if the price of still water is increased by 10%
- aftermarkets: cheap ink-jet printer of brand \(X\) but cartridges are sold by \(X\) at a high price
- do cartridges of \(X\) form a relevant market
- probably not: although you will be stuck if \(X\) increases price, buyers of new printers substitute away from \(X\) because its cartridges are so expensive
- buyers of new printers are the marginal consumers
- if enough marginal consumers switch away from \(X\), rise in cartridge prices is not profitable
- if so, market for \(X\) cartridges is not a relevant market
- are Rolex and Casio watches in the same market?
- some people argue they are not because they sell at completely different prices and are of completely different quality
- correct question: do consumers at the margin switch from Rolex to Casio if price of Rolex watches is increased by 10%
- CES utility function \(u(x,y)=(a x^\theta + b y^\theta)^{1/\theta}\)
- whether goods are substitutes is determined by \(\theta\)
- if \(a >> b\) then price of \(X\) will be higher than price of \(Y\)
- SSNIP test considers price increase of 5-10%, but from which benchmark?
- depends on the question that you want to answer
- benchmark price differs between merger cases and Article 101, 102 cases
- definition of relevant market is different for different questions
- merger case: whether the merger between two firms leads to price increase
- question is whether at current prices merged firm has enough market power to raise prices
- benchmark price is current price on the market
- abuse of a dominant position case: current price not necessarily the right benchmark
- US case: Du Pont argued that cellophane was not a separate relevant market
- empirical evidence showed that it competed closely with other packaging materials such as aluminium foil and wax paper
- Du Pont sole supplier of cellophane
- on the wider market of packaging materials it had a smaller market share
- US Supreme Court agreed that because of these other packaging materials Du Pont could not increase prices further
- from this it does not follow that Du Pont did not have market power
- as a monopolist Du Pont had increased the price of cellophane to such an extent that other (inferior) packaging materials now became substitutes
- observation that Du Pont's cellophane did compete with these other materials strongly suggests that Du Pont did abuse its market power by charging excessive prices for cellophane
- in abuse case, current price level is not necessarily right benchmark for SSNIP test
- sometimes take competitive price (or the price prevailing under effective or workable competition) as a benchmark
- Du Pont as monopolist was able to raise price of cellophane profitably by 10% from the competitive price
- if you try to determine whether a firm has abused her market power by raising prices, relevant market should be determined with competitive prices as benchmark (not current prices)
- recall that a profit maximizing monopolist cannot profitably increase her price by 10% at current prices
- tendency among lawyers to interpret high market share as a signal of market power
- not necessarily correct:
- two firms \(1,2\) producing a homogenous good
- \(p = 1- (q_1+q_2)\)
- firm's marginal costs: \(c_1=0,c_2=c< 0.5\)
- Cournot competition implies (check) \(q_1^C = \frac{1+c}{3},q_2^C = \frac{1-2c}{3},p^C=\frac{1+c}{3}\)
- Bertrand competition: \(q_1^B=1-c,q_2^B=0,p^B=c\)
- Bertrand outcome is more competitive than Cournot
- Bertrand market is more concentrated than Cournot market
- lack of competition under Cournot allows less efficient firm 2 to enter
- high concentration can be sign of intense competition
- in this lecture we have seen:
- how EU competition law is structured
- why we need CA and what its objectives are (can be)
- what the welfare losses are due to monopoly/market power
- why market power is not always bad
- why high concentration does not always signal market power
- ways in which firms create market power
- how to define relevant market and avoid two fallacies