Industrial Organization : Theory and Practice

by Waldman, Don E.; Jensen, Elizabeth J.

• ISBN13: 9780321376107
• ISBN10: 0321376102
• Edition: 3rd
• Format: Paperback
• Copyright: 2006-07-25
• Publisher: Prentice Hall

Summary

Written solely for the undergraduate audience, this streamlined Third Edition ofIndustrial Organization: Theory and Practice--which features early coverage of Antitrust--punctuates its modern introduction to industrial organization with relevant empirical data and case studies to show students how to apply theoretical tools.

Author Biography

Elizabeth J. Jensen is Professor of Economics at Hamilton College. Don E. Waldman is the Richard M. Kessler Professor of Economic Studies at Colgate University.

Table of Contents

Preface	xix
PART I THE BASICS OF INDUSTRIAL ORGANIZATION
Introduction	1	(16)
Two Approaches to the Study of Industrial Organization	3	(4)
The Structure-Conduct-Performance (SCP) Approach	3	(3)
The Chicago School Approach	6	(1)
Static versus Dynamic Models	7	(1)
Theory and Empiricism	7	(1)
Government and Industrial Organization	8	(4)
The Content of the Antitrust Laws	8	(3)
Enforcement Procedures	11	(1)
The Global Economy and Industrial Organization	12	(1)
General Approach of This Book	13	(4)
Summary	14	(3)
The Firm and Its Costs	17	(34)
The Neoclassical Firm	17	(1)
The Theory of the Firm	18	(3)
A Firm's Boundaries	18	(3)
The Structure of Modern Firms	21	(10)
Separation of Ownership and Control	22	(1)
Managerial Objectives	23	(1)
Application 2.1 Executive Compensation: Pay for Performance?	23	(2)
Application 2.2 X-Inefficiency Goes Extreme: Putting Masseuses, Christmas Trees, Renoirs, and Monets on the Company Payroll	25	(1)
Feasibility of Profit Maximization	26	(1)
Application 2.3 How Do Firms Use Rule-of-Thumb Pricing?	26	(2)
Constraints on Managers	28	(1)
Application 2.4 Stockholder Revolt at the Happiest Place on Earth: The Disney Stockholders versus Michael Eisner	28	(3)
The Profit-Maximizing Output Level	31	(1)
Cost Concepts: Single-Product Firms	32	(10)
Accounting Costs Versus Economic Costs	32	(1)
Short-Run Costs of Production	33	(1)
Application 2.5 When Do Sunk Costs Matter to a Firm?	33	(4)
Long-Run Costs of Production and Economies of Scale	37	(2)
Application 2.6 A Measure of Economies of Scale	39	(3)
Cost Concepts: Multiproduct Firms	42	(9)
Application 2.7 A Measure of Economies of Scope	42	(1)
Application 2.8 Are There Economies of Scope in Institutions of Higher Education?	43	(2)
Summary	45	(6)
Competition and Monopoly	51	(37)
The Economics of Perfect Competition	51	(8)
The Assumptions of Perfect Competition	52	(2)
The Firm's Supply Curve	54	(2)
Application 3.1 Short-Run Losses in the Airline Industry	56	(1)
The Market Supply Curve and Equilibrium	57	(1)
Properties of Competitive Equilibrium	58	(1)
Introduction to Welfare Economics	59	(3)
Application 3.2 Consumer and Producer Surplus and the Basic Theory of the Gains from Trade	59	(3)
The Economics of Monopoly	62	(3)
The Relationship Between Marginal Revenue and Price	62	(2)
Elasticities, the Degree of Market Power, and the Lerner Index	64	(1)
Welfare Comparison	65	(6)
Measurement of the Costs of Market Power	67	(1)
Application 3.3 Monopoly Rent-Seeking in the Pharmaceutical Industry	68	(2)
Cautions	70	(1)
Present Value and Discounting	71	(2)
Antitrust Policy Toward Monopolization	73	(15)
Early Cases	74	(1)
Application 3.4 American Tobacco's ``Attempt to Monopolize''	74	(2)
The Alcoa Era	76	(1)
Recent Trends in Section 2 Cases	77	(4)
Summary	81	(7)
Market Structure	88	(55)
Concentration in Individual Markets	89	(7)
Structure-Based Measures	89	(1)
Application 4.1 Aggregate Concentration	90	(4)
Definition of the Relevant Market	94	(2)
Entry and Exit	96	(17)
Patterns of Entry and Exit	96	(1)
Entry	97	(1)
Static or Structural Barriers to Entry	98	(2)
Application 4.2 How Do Economists Estimate Economies of Scale?	100	(9)
Application 4.3 What Does the Evidence Say About Barriers to Entry?	109	(1)
Incentives to Enter	110	(1)
Exit	111	(1)
The Interaction of Entry and Exit	112	(1)
Mergers	113	(30)
Merger History	114	(2)
Motives for Merger	116	(3)
Application 4.4 Can Pixar Save Disney?	119	(1)
The Effects of Mergers on Competition and Welfare	120	(3)
Empirical Evidence on the Effects of Mergers	123	(2)
Public Policy Toward Mergers	125	(7)
Merger Guidelines and the Hart-Scott-Rodino Act	132	(3)
Summary	135	(8)
Monopoly Practices	143	(18)
Dominant-Firm Price Leadership Model	143	(7)
Sources of Dominance	144	(1)
Pricing by a Dominant Firm	144	(5)
Application 5.1 Banks and Credit Unions: Dominant Firms and Fringe Suppliers?	149	(1)
Empirical Evidence of the Decline of Dominant-Firm Price Leaders	149	(1)
Contestable Markets: A Check on Market Power?	150	(3)
Network Economics	153	(8)
Complementarity, Compatibility, and Standards	153	(1)
Externalities	154	(1)
Switching Costs and Lock-In	155	(1)
Significant Economies of Scale	155	(1)
Summary of Network Effects	155	(1)
Application 5.2 Microsoft and Network Effects	156	(1)
Summary	157	(4)
Market Power and Performance: The Empirical Evidence	161	(46)
Structure-Conduct-Performance	162	(1)
Statistical Tools Used to Test the SCP Paradigm	163	(4)
Exogenous and Endogenous Variables	166	(1)
Measurement Issues	167	(9)
Measures of Performance	168	(3)
Application 6.1 Does the Method of Calculating Profit Rates Matter?	171	(3)
Correlations Among Measures of Performance	174	(1)
Summary of Measures of Profitability	175	(1)
Measures of Market Structure	176	(1)
Measures of Concentration	176	(1)
Barriers to Entry	176	(1)
Other Variables	177	(1)
Early Structure-Conduct-Performance Studies	177	(1)
Econometric Studies	178	(3)
Concentration and Profitability: Evidence From Industry-Level Studies	179	(1)
Summary of Industry-Level Results	180	(1)
Effects of Other Elements of Market Power on Profits	181	(1)
Conceptual Problems with SCP Studies	182	(5)
Collusion Versus Efficiency	182	(2)
Assumption of Linearity	184	(1)
Variations Over Time	185	(2)
Endogeneity Problem	187	(1)
Prices and Concentration	187	(1)
An Alternative Approach: Sunk Costs and Market Concentration	188	(7)
Markets with Exogenous Sunk Costs	189	(1)
Markets with Endogenous Sunk Costs	189	(2)
Sutton's Empirical Tests	191	(2)
Application 6.2 Applying Sutton's Theory in the Supermarket Industry	193	(2)
The New Empirical Industrial Organization	195	(12)
Application 6.3 Price-Cost Margins in the RTE Cereal Industry	197	(1)
Summary	198	(9)
PART II MODERN INDUSTRIAL ORGANIZATION: GAME THEORY AND STRATEGIC BEHAVIOR
Game Theory: A Framework for Understanding Oligopolistic Behavior	207	(23)
What Is Game Theory?	207	(1)
Simple Zero-Sum Games	208	(2)
Application 7.1 University Rankings and Merit-Based Financial Aid as a Zero-Sum Game	210	(1)
The Information Structure of Games	210	(1)
Prisoner's Dilemma Games	211	(3)
Application 7.2 A Prisoner's Dilemma---Doctors and HMOs	212	(2)
Repeated Games	214	(1)
Games of Mixed Strategies	215	(3)
Sequential Games	218	(12)
Credible Versus Noncredible Threats and Subgame Perfect Nash Equilibria	219	(2)
Application 7.3 Dr. Strangelove and Credible Threats Gone Wrong	221	(2)
Summary	223	(7)
The Development of Oligopoly Theory	230	(36)
Models Based on Quantity Determination	230	(21)
The Cournot Model	230	(6)
The Cournot-Nash Equilibrium	236	(2)
Cournot-Nash Model With More Than Two Firms	238	(2)
Application 8.1 Empirical Evidence of Cournot-Nash Behavior---Experimental Games with Varying Numbers of Players	240	(2)
Application 8.2 The Paradox of Mergers in a Cournot-Nash Market	242	(1)
Application 8.3 Examples of Cournot-Nash Pricing in Real Markets	242	(1)
Using the Cournot-Nash Model in the Context of International Trade	243	(5)
Application 8.4 The Effectiveness of Industrial Policy: UK Subsidies and Tariffs	248	(2)
Application 8.5 The Effectiveness of Industrial Policy: The Commercial Aircraft Industry	250	(1)
The Stackelberg Model	251	(5)
Firms With Identical Costs and Demand	251	(2)
The Stackelberg Model: Firms with Different Costs	253	(2)
Application 8.6 Empirical Examples of Stackelberg Equilibrium	255	(1)
The Bertrand Model	256	(10)
Application 8.7 Bertrand Pricing in the Airline Industry	260	(1)
Application 8.8 Bounded Rationality, Sluggish Consumers, Internet Pricing, and the Failure to Achieve a Bertrand Equilibrium	260	(2)
Summary	262	(4)
Collusion: The Great Prisoner's Dilemma	266	(37)
The Prisoner's Dilemma Revisited	266	(8)
Application 9.1 Tit-for-Tat in Baseball	268	(5)
Application 9.2 A Real-World Example of ``Nice'' Behavior in Response to Random or ``Accidental'' Defections Automobiles	273	(1)
Another Strategy for Maintaining Effective Collusion: Trigger Price Strategies	274	(1)
Collusive Agreements as Viewed by One Firm in a Cartel	275	(7)
Factors Affecting the Ease or Difficulty of Effective Collusion	282	(7)
The Existence of Market Power	283	(1)
The Costs of Reaching And Maintaining An Agreement	284	(3)
Application 9.3 Factors Facilitating Global Cartels: Evidence from Lysine, Citric Acid, and Vitamins A and E	287	(2)
Antitrust Policy Toward Collusion	289	(14)
Public Policy Toward Direct Price-Fixing Agreements	291	(1)
Price-Exchange Agreements	292	(1)
Oligopolistic Behavior---Conscious Parallelism	293	(2)
Trade Associations	295	(1)
Nonprofit Organizations: Cases Involving Colleges and Universities	296	(2)
Summary	298	(5)
Cartels in Action	303	(32)
Attempted Methods of Achieving Effective Collusion	303	(22)
Dominant-Firm Price Leader and Benefactor	303	(3)
Price Leadership	306	(4)
Application 10.1 A Sweet Case of Price Leadership: Dole and Del Monte in the Canned Pineapple Industry	310	(1)
Most Favored Customer Clauses and ``Low-Price'' Guarantees	311	(2)
Application 10.2 Most Favored Customer Clauses for Medicaid, But What About Everyone Else?	313	(2)
Basing Point Pricing Systems	315	(2)
Trade and Professional Associations	317	(2)
Application 10.3 ``Something Is Rotten in the State of Denmark'': The Danish Government Promotes Tacit Price Fixing	319	(2)
Schemes to Divide Markets	321	(2)
Patent Cartels	323	(2)
How Successful Are the Solutions?	325	(10)
Excess Capacity Problems	325	(1)
Encroachment of Substitute Products	326	(1)
More Effective Antitrust Strategies: The Department Of Justice Corporate Leniency Program	326	(3)
Summary	329	(6)
Oligopoly Behavior: Entry and Pricing to Deter Entry	335	(37)
Limit Pricing	335	(16)
Limit Pricing with a Cost Advantage for the Monopolist Firm	335	(3)
Limit Pricing in the Absence of a Cost Advantage for the Monopolist Firm	338	(1)
The Critique of Game Theorists	339	(5)
Limit Pricing with Asymmetric Information	344	(3)
Empirical Evidence of Limit Pricing	347	(3)
Application 11.1 Limit Pricing in the Antihistamine Market	350	(1)
Predatory Pricing	351	(21)
Predatory Pricing with Perfect, Certain, Complete, and Symmetric Information	352	(1)
Predatory Pricing With Imperfect, Certain, Incomplete, And Asymmetric Information	353	(1)
The Kreps And Wilson Predatory Pricing Game	354	(1)
Empirical Evidence: Predatory Pricing and Building a Tough Reputation	355	(3)
Application 11.2 Does Wal-Mart Use Predatory Pricing?	358	(1)
Application 11.3 Don't Mess with Bill: Netscape versus Microsoft in the Internet Browser Market	359	(2)
Summary	361	(6)
Appendix: Details of the Kreps and Wilson Predatory Pricing Model	367	(5)
Oligopoly Behavior: Entry and Nonpricing Strategies to Deter Entry	372	(44)
Excess Capacity	372	(8)
Investing in Research and Development to Lower Costs	376	(1)
Empirical Evidence	376	(4)
Raising Rivals' Costs	380	(6)
Lobbying to Increase Barriers to Entry	381	(1)
Increasing Advertising	381	(1)
Providing Complementary Goods and Services	382	(1)
Sabotaging Corporate Competitors	382	(1)
Empirical Evidence on Raising Rivals' Costs	382	(3)
Application 12.1 Detergent Wars and the Battle of Good versus Evil: Amway v. Proctor & Gamble	385	(1)
Learning by Doing	386	(8)
Empirical Evidence on Learning by Doing	388	(4)
Application 12.2 Qualitative Learning by Doing in the Motion Picture Industry: The Case of the ``Talkies''	392	(2)
Product Proliferation	394	(5)
Empirical Evidence on the Use of Product Proliferation	394	(5)
Empirical Evidence on the Use of Price and Nonprice Strategies to Deter Entry	399	(17)
Summary	402	(6)
Appendix: Product Proliferation Revisited	408	(8)
PART III BUSINESS PRACTICES
Product Differentiation and Advertising	416	(53)
Forms of Product Differentiation	416	(1)
Theoretical Analysis of Product Differentiation	417	(18)
The Potential Impact of Product Differentiation on Price: The Bertrand Model Revisited	418	(2)
The Economics of Monopolistic Competition and the Optimal Amount of Variety	420	(8)
Product Differentiation with Asymmetric Information	428	(5)
Application 13.1 What Do the Markets for Thoroughbred Racehorses and Baseball Players Have in Common? Product Differentiation, Asymmetric Information, and Adverse Selection	433	(2)
The Social Benefits and Costs of Advertising	435	(4)
The Social Benefits of Advertising	435	(1)
The Social Costs of Advertising	436	(3)
Advertising and Market Structure	439	(16)
Welfare Effects of Advertising	439	(2)
The Dorfman-Steiner Model	441	(2)
Advertising and Oligopoly Behavior	443	(4)
Application 13.2 The Variability of Advertising-to-Sales Ratios Across Industries	447	(4)
The Product Differentiation Advantages of First Movers	451	(4)
Advertising as a Barrier to Entry	455	(1)
Strategic Advantages of Heavily Advertised Brands	456	(1)
Product Differentiation and Increased Competition	457	(1)
Empirical Evidence	457	(12)
Traditional Studies of the Relationship Between Advertising and Performance Across Industries	458	(3)
New Empirical Industrial Organization Studies	461	(1)
Summary	462	(7)
Technological Change and Research and Development	469	(46)
Schumpeter and the Process of ``Creative Destruction''	469	(3)
Application 14.1 Examples of Creative Destruction	471	(1)
The Process of Technological Change	472	(1)
The Relationship Between Market Structure, Firm Size, and Technological Advance	473	(13)
The Impact of Oligopoly	475	(5)
Dominant Firms as Fast-Second Innovators	480	(1)
A Contribution of Game Theory	481	(2)
The Theoretical Impact of a Patent System	483	(3)
The Impact of Firm Size	486	(3)
Empirical Evidence	489	(4)
Measurement Issues	489	(1)
Testing Schumpeter's Hypotheses	489	(4)
The Economics of the Patent System	493	(10)
Empirical Evidence on the Impact of Patents	496	(3)
Intellectual Property Rights and Copyrights	499	(1)
Application 14.2 Why Bother with Intellectual Property Rights? The Case of China	500	(3)
Patents, Intellectual Property Rights, and the Law	503	(12)
Summary	505	(6)
Appendix: Game Theory and Patent Races	511	(4)
Price Discrimination	515	(47)
Types of Price Discrimination	515	(13)
First-Degree Price Discrimination	516	(1)
Application 15.1 Microsoft's Attempt to Use First-Degree Price Discrimination	517	(1)
Second-Degree Price Discrimination	518	(2)
Application 15.2 The Use of Coupons and Second-Degree Price Discrimination	520	(2)
The Welfare Effects of Second-Degree Price Discrimination	522	(1)
Third-Degree Price Discrimination	523	(1)
Welfare Implications of Third-Degree Price Discrimination	523	(4)
Application 15.3 Third-Degree Price Discrimination at Disney World	527	(1)
Two-Part Tariffs, Tying, and Bundling	528	(11)
Two-Part Tariffs	528	(2)
The Welfare Effects of a Two-Part Tariff	530	(2)
Application 15.4 Changing Pricing Strategies at Disneyland and Disney World	532	(1)
Bundling	532	(1)
Mixed Bundling	533	(5)
Requirements Tie-In Sales	538	(1)
Distribution Effects of Price Discrimination	539	(1)
Effect on Competition	540	(2)
Antitrust: Price Discrimination and the Robinson-Patman Act	542	(20)
Secondary-Line Cases	543	(5)
Primary-Line Cases	548	(3)
Illegally Induced Price Discrimination	551	(1)
Summary	552	(8)
Appendix: The Welfare Implications of Price Discrimination with Nonlinear Demand	560	(2)
Vertical Integration and Vertical Relationships	562	(44)
Vertical Relationships as a Solution to Economic Problems	562	(4)
The Problem of Double Marginalization	564	(2)
Alternative Methods of Achieving Joint Profit Maximization	566	(9)
The Problem of Insufficient Promotional Services	567	(2)
Application 16.1 Vertical Integration, Exclusive Dealing, and the Value of an Upscale Pub's Amenities in Australia	569	(4)
Application 16.2 The Welfare Effects of Exclusive Dealing in the U.S. Beer Industry	573	(1)
Solving the Problem of Input Substitution	574	(1)
The Competitive Effects of Vertical Relationships	575	(10)
Resale Price Maintenance Agreements	575	(2)
Application 16.3 Toys ``R'' Us as the Facilitaor of Toy Manufacturer Collusion	577	(2)
Strategic Uses of Vertical Restraints and Integration	579	(2)
Raising the Capital Barrier to Entry	581	(1)
Collusion and Vertical Integration	581	(1)
Application 16.4 The Possible Negative Welfare Impacts of Increasing Vertical Integration: The Case of the Southern California Gasoline Retailing Market	582	(2)
Foreclosure	584	(1)
Antitrust: Public Policy Toward Vertical Restraints of Trade and Group Boycotts	585	(21)
Tying Agreements	585	(3)
Cases Dealing with Franchising Agreements	588	(1)
Exclusive Dealing Agreements	588	(3)
Territorial and Customer Restrictions	591	(2)
Resale Price Maintenance Agreements	593	(3)
Summary	596	(5)
Appendix: The Problem of Input Substitution	601	(5)
Regulation and Deregulation	606	(33)
The Rationale for Regulation: Traditional Public Utility Regulation	606	(2)
The Workings of American Regulation	608	(3)
Setting the Permitted Rate Of Return	609	(2)
Efficiency Problems Associated with Rate of Return Regulation	611	(5)
X-Inefficiency	611	(1)
The Averch-Johnson Effect	611	(3)
Setting the Price Structure	614	(2)
The Spread of Regulation into Other Markets	616	(3)
The Capture Theory of Regulation	616	(2)
Application 17.1 It's More Than Peanuts	618	(1)
The Movement from Regulation to Deregulation	619	(20)
Surface Transportation	619	(1)
Airline Regulation and Deregulation	620	(2)
Application 17.2 Airline Regulation: Where Did All the Profits Go?	622	(3)
Regulation of Telecommunications and Broadcasting	625	(4)
Electricity	629	(1)
Application 17.3 Electricity Restructuring: Lights Out in California	630	(1)
Natural Gas Industry	631	(1)
Summary	632	(7)
Glossary	639	(13)
Answers To Odd-Numbered Problems	652	(26)
Index	678	(34)
Credits	712