Cap 16

114 Notetaker
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CHAPTER
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16
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Market Structure ___________________________________

and Public Policy
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Prepared by: Fernando and Yvonn Quijano
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© 2006 Prentice Hall Business Publishing Economics: Principles and Tools, 4/e O’Sullivan/ Sheffrin
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Natural Monopoly
___________________________________
• A natural monopoly is a market in
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C H A P T E R 16: Market Structure and Public Policy
which large economies of scale

ensure that only a single large firm
can survive. ___________________________________
• In this case, the government can
intervene by regulating the price ___________________________________
charged by the natural monopolist.
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© 2006 Prentice Hall Business Publishing Economics: Principles and Tools, 4/e O’Sullivan/ Sheffrin 2 of 15
A Natural Monopoly Uses the Marginal ___________________________________

Principle to Pick Quantity and Price
___________________________________
• The long-run average cost
curve is negatively sloped
___________________________________
and steep, reflecting the

large economies of scale
that occur in the cable
industry. ___________________________________
• The monopoly chooses
point n (where marginal
revenue equals marginal
___________________________________
cost).
• Quantity: 70,000
Price: $27 (point m)
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Average cost: $21 (point c)
Profit per subscriber: $6 ___________________________________
Economics: Principles and Tools 4/e115
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Will a Second Firm Enter?
___________________________________
• The entry of a second
cable firm would shift the
___________________________________
demand curve facing the

typical firm to the left.
• After entry, the firm’s
demand curve lies entirely
___________________________________
below the long-run average
cost curve. No matter what
price the typical firm
___________________________________
charges, it will lose money.
Therefore, a second firm
will not enter the market. ___________________________________
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Price Controls for a Natural Monopoly
___________________________________
• Under an average-cost
pricing policy, the ___________________________________
government chooses the

price at which the demand
curve intersects the long- ___________________________________
run average cost curve.
• Under regulation, the ___________________________________
government picks point r,
with a price of $12 per
subscriber. ___________________________________
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Antitrust Policy
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• The government uses antitrust policy
___________________________________
to break up some dominant firms,

prevent some corporate mergers,
and regulate business practices that ___________________________________
reduce competition.
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116 Notetaker
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Breaking Up Monopolies
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• One form of antitrust policy is to
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break up a monopoly into several

smaller firms.
• A trust is an arrangement under ___________________________________
which the owners of several
companies transfer their decision- ___________________________________
making powers to a small group of
trustees, who then make decisions ___________________________________
for all the firms.
___________________________________
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Blocking Mergers
___________________________________
• A merger is a process in which two
___________________________________
or more firms combine their

operations.
• A second type of antitrust policy is to ___________________________________
block corporate mergers that would
reduce competition and lead to ___________________________________
higher prices.
___________________________________
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Applications: Merger Remedies ___________________________________

for Xidex and Wonder Bread
___________________________________
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Table 16.1 A Merger Increases Prices

Wonder Brand Interstate Brand Total
Before After Before After Before After
merger merger merger merger merger merger ___________________________________
Average cost $1,50 $1,50 $1,50 $1,50
Price $2,00 $2,00 $2,00 $2,20

Quantity 100 110 100 70 200 180
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Profit $50 $55 $50 $49 $100 $104
Column 1 2 3 4 5 6 ___________________________________
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Economics: Principles and Tools 4/e117
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Regulating Business Practices
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• The third type of antitrust regulation involves
the regulation of business practices. ___________________________________
• Tie-in sales are sales that force the buyer of

one product to purchase a second product.
___________________________________
• Predatory pricing is a pricing scheme under
which a firm decreases its price to drive a
rival out of business and increases the price ___________________________________
when the other firm disappears.
• In most circumstances, predatory pricing is ___________________________________
unprofitable because the monopoly power is
costly to acquire and hard to maintain.
___________________________________
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A Brief History of U.S. Antitrust Policy
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Table 16.2 Brief History of Antitrust Legislation
1890 Sherman Act: Made it illegal to monopolize a market or to engage in
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practices that result in a restraint of trade.

1914 Clayton Act: Outlawed specific practices that discourage competition,
including tying contracts, price discrimination for the purpose of
reducing competition, and stock-purchase mergers that would ___________________________________
substantially reduce competition.
1914 Federal Trade Commission Act: Established to enforce antitrust laws.
1936 Robinson-Patman Act: Prohibited selling products at “unreasonably low
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prices” with the intent of reducing competition.
1950 Celler-Kefauver Act: Outlawed asset-purchase mergers that would
substantially reduce competition. ___________________________________
1980 Hart-Scott-Rodino Act: Extended antitrust legislation to proprietorships
and partnerships.
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Deregulation of Airlines
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• In the airline industry, deregulation caused
some firms to go out of business and others to ___________________________________
merge.
• Some mergers resulted in lower production
costs and prices, but others reduced
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competition and led to higher fares.
• A continuing problem is that many airports ___________________________________
continue to be dominated by just one or two
airlines.
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118 Notetaker
Deregulation of ___________________________________
Telecommunication Services
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• The Telecommunications Act of 1996
established new rules for the transmission ___________________________________
of video, voice and data.

• The basic idea was to promote competition
in the markets for telecommunication
___________________________________
services.
• As competition spreads, we can expect ___________________________________
lower prices for local service, just as we
saw with the deregulation of long-distance
service in 1984.
___________________________________
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Deregulation of Electricity
___________________________________
• The electricity industry has been regulated
as a natural monopoly since its early days. ___________________________________
• In the 1990s, growing pressure to

deregulate the electricity market came from
innovations that reduced the economies of
___________________________________
scale in electricity generation, as well as
substantial variation in electricity prices ___________________________________
across states.
• The energy debacle in California may
modify other states’ plans to deregulate
___________________________________
their electricity markets.
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Key Terms
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tying
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predatory pricing
trust
merger ___________________________________
natural monopoly
average-
average-cost pricing policy ___________________________________
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114 Notetaker

Market Structure ___________________________________

which large economies of scale

A Natural Monopoly Uses the Marginal ___________________________________

and steep, reflecting the

demand curve facing the

government chooses the

to break up some dominant firms,

break up a monopoly into several

or more firms combine their

Applications: Merger Remedies ___________________________________

Table 16.1 A Merger Increases Prices

Price $2,00 $2,00 $2,00 $2,20

• Tie-in sales are sales that force the buyer of

practices that result in a restraint of trade.

of video, voice and data.

• In the 1990s, growing pressure to

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