Chapter 8,Firms in the Global Economy: Export Decisions, Outsourcing, and Multinational Enterprises,8-2,Preview,Monopolistic competition and trade The significance of intra-industry trade Firm responses to trade: winners, losers, and industry performance Dumping Multinationals and outsourcing,8-3,Introduction,When economies of scale exist, large firms may be more efficient than small firms, and the industry may consist of a monopoly or a few large firms. Production may be imperfectly competitive in the sense that excess or monopoly profits are captured by large firms. Internal economies of scale result when large firms have a cost advantage over small firms, causing the industry to become uncompetitive.,8-4,Introduction (cont.),Internal economies of scale imply that a firms average cost of production decreases the more output it produces. Perfect competition that drives the price of a good down to marginal cost would imply losses for those firms because they would not be able to recover the higher costs incurred from producing the initial units of output. As a result, perfect competition would force those firms out of the market.,8-5,Introduction (cont.),In most sectors, goods are differentiated from each other and there are other differences across firms. Integration causes the better-performing firms to thrive and expand, while the worse-performing firms contract. Additional source of gain from trade: As production is concentrated toward better-performing firms, the overall efficiency of the industry improves. Study why those better-performing firms have a greater incentive to engage in the global economy.,8-6,The Theory of Imperfect Competition,In imperfect competition, firms are aware that they can influence the prices of their products and that they can sell more only by reducing their price. This situation occurs when there are only a few major producers of a particular good or when each firm produces a good that is differentiated from that of rival firms. Each firm views itself as a price setter, choosing the price of its product.,8-7,Monopoly: A Brief Review,A monopoly is an industry with only one firm. An oligopoly is an industry with only a few firms. In these industries, the marginal revenue generated from selling more products is less than the uniform price charged for each product. To sell more, a firm must lower the price of all units, not just the additional ones. The marginal revenue function therefore lies below the demand function (which determines the price that customers are willing to pay).,8-8,Monopoly: A Brief Review,Assume that the demand curve the firm faces is a straight line Q = A B(P), where Q is the number of units the firm sells, P the price per unit, and A and B are constants. Marginal revenue equals MR = P Q/B. Suppose that total costs are C = F + c(Q), where F is fixed costs, those independent of the level of output, and c is the constant marginal cost.,8-9,Fig. 8-1: Monopolistic Pricing and Production Decisions,8-10,Monopoly: A Brief Review (cont.),Average cost is the cost of production (C) divided by the total quantity of production (Q). AC = C/Q = F/Q + c Marginal cost is the cost of producing an additional unit of output. A larger firm is more efficient because average cost decreases as output Q increases: internal economies of scale.,8-11,Fig. 8-2: Average Versus Marginal Cost,8-12,Monopoly: A Brief Review (cont.),The profit-maximizing output occurs where marginal revenue equals marginal cost. At the intersection of the MC and MR curves, the revenue gained from selling an extra unit equals the cost of producing that unit. The monopolist earns some monopoly profits, as indicated by the shaded box, when P AC.,8-13,Monopolistic Competition,Monopolistic competition is a simple model of an imperfectly competitive industry that assumes that each firm can differentiate its product from the product of competitors, and takes the prices charged by its rivals as given.,8-14,Monopolistic Competition (cont.),A firm in a monopolistically competitive industry is expected to sell more as total sales in the industry increase and as prices charged by rivals increase. less as the number of firms in the industry decreases and as the firms price increases. These concepts are represented by the function:,8-15,Monopolistic Competition (cont.),Q = S1/n b(P P) Q is an individual firms sales S is the total sales of the industry n is the number of firms in the industry b is a constant term representing the responsiveness of a firms sales to its price P is the price charged by the firm itself P is the average price charged by its competitors,8-16,Monopolistic Competition (cont.),Assume that firms are symmetric: all firms face the same demand function and have the same cost function. Thus all firms should charge the same price and have equal share of the market Q = S/n Average costs should depend on the size of the market and the number of firms: AC = C/Q = F/Q + c = n F/S + c,8-17,Mo