Sunday, April 25, 2010

Game Theory

Invented in 1937 by John von Newmann and continues to be a major research topic in economics, the Game theory is a method that economists use evaluate behavior which acknowledges shared interdependence and with consideration of the expected behavior of others, also referred to as strategic behavior. It assists in the understanding many types of economic, political, biological, and social rivalries, including oligopoly.

Typically, a game consists of three features: rules, strategies, and playoffs.
An example to apply the game theory to is the “Prisoners’ dilemma.” The game is between two prisoners who are arrested for a crime but are suspected for a smaller crime without evidence.
There are four different strategies in this dilemma. One being that they both confess and each will receive 3 years of imprisonment, if they both deny then each will receive two years of imprisonment. If prisoner 1 confesses and prisoner 2 denies, then Prisoner 1 will receive 1 year of imprisonment and Prisoner two will receive ten years of imprisonment, and vice versa if the strategy is switched. The trick of the game is that neither of the prisoners will know what the other one will do.

Sunday, April 18, 2010

Signaling Quality through Advertisement in a Monopolisitc Competition

Signaling occurs when an informed person of a firm takes some sort of action to send out a message to those who are less informed.

A firm that sells a consistently high quality product can run a costly campaign to advertise their product because it is likely that the consumers will continue to purchase that product since it is of high quality.

In contrast, it does not make sense for a firm that sells a low quality product to run a costly campaign to attempt to advertise their product because the amount of money spent by that company to advertise their product will exceed the revenue that is brought in by selling that product because it likely that most consumers will attempt to try that product once, and will not purchase it again if it is low quality.

It is more likely that consumers will believe an advertisement that is much more expensive and flashy looking because they feel that a firm will not go through all the trouble spending a great amount of money if their product is not good. The expensive flashy advertisement for the high quality product will send out a signal to the audience and consumers that the particular product is very good without having to say much about the product itself.

Sunday, April 11, 2010

Barriers to Entry in a Monopoly

A barrier to entry is a restraint that shields a firm from the entry of a new competitor. There are three barriers to entry that exist in a monopoly: Natural, ownership, and legal.

A natural barrier to entry in a monopoly occrs when one firm can assemble the full market demand at a lower expense than two or more other firms are able to assemble. For instance a cable provider can provide its customer's cable for a price lower than other companies.

Ownership barrier to entry occurs when one firm holds control of all production and supply. For instance, DeBeers is a company that control the entire production of raw diamonds in the world.

Legal barrier to entry occurs when the governemnt restricts entry in to the market through issuing patents, licenses, public franchises and copyright to a firm. An example of this would be the United States Postal Service. They have the exclusive right to deliver first-class mail, they are a public franchise. A patent is an exclusive right issued to the inventor of a service or good. A license isseud by the government to a firm manages the entry into certain professions, occupations, industries. A copyright is an exclusive right that is issued to author or creator of a literary, musical, artistic, or dramatic piece.

Sunday, April 4, 2010

Change in Demand in a Perfectly Competitive Market

In a competitive market the firms are are not making any economic profit and the entreprenuer makes normal profit. It is part of a long-run equilibrium. With that said, the demand increases which causes prices to rise and firms will have to increase proudction in order to be able to maintain the marginal cost equal to the price, and the firm will make economic profit. In this process, the market becomes part of short-run equilibrium.

The economic profit is what interests a firm to participate in a market. As the number of firms enter into a market, the market supply increases and the prices will start to decrease. With lower prices, firms' output decreases in order to maintain the marginal cost equal to the price.

There are two different types of equilibriums associated with this: Initial long-run competition and new long-run equilibrium. The difference between the two is the permanant increase in demand in the number of firms. Every firm produces the same amount of output in the new long-run equilibrium as at first and does not make any economic profit.

A decrease in demand causes a lower price, ecnomic loss, and exit from the market. The exit from the market will decrease the market supply, cause an increase in prices, and will eradicate economic loss.