MARKET STRUCTURE Overview Context: Youre analyzing a given - - PowerPoint PPT Presentation

MARKET STRUCTURE

Overview

• Context: You’re analyzing a given industry. How would you

expect market structure to depend on type of industry, type of product, country size, etc

• Concepts: exogenous and endogenous entry costs, scale

economics and minimum efficient scale, business stealing

• Economic principle: market structure depends on many factors,

but there are some regularities

Industry concentration

20 40 60 80 100 20 40 60 80 100

C4 (%) in Germany C4 (%) in France

20 40 60 80 100 20 40 60 80 100

C4 (%) in Belgium C4 (%) in France C4 measures the combined market shares of the 4 largest firms. More on this later.

Market size and market structure

• Cournot competition. Cost: C = F + c qi

Demand Q = (a − P) S, where S is measure of market size

• Equilibrium profit level:

Π(n) = S

• a−c

n+1

2 − F

• Free entry equilibrium:

Π( n) ≥ 0 ≥ Π( n + 1) Π( n) = 0 ⇒ n = (a − c)

• S

F − 1

• n =
• (a − c)
• S

F − 1

• where [x] denotes highest integer lower than x

Market size and market structure

• Equilibrium value of n

− increasing in a, S − decreasing in F, c

• Relation between S and n is increasing but less than proportional
• Intuition: higher S leads to higher n, but higher n leads to lower

p, which in turn limits the increase in n

Market size and market structure

5 10 15 20 5 10 n (number of entrants) S (market size)

Parameter values: a = 100, c = 30, F = 100

Evolution of market structure

• Number of firms and firm size changes over time:

− firm growth − firm entry and exit − mergers and divestitures

• Evolution determined by changes in

− demand − technology − regulation

Production capacity of US brewers

Capacity (103 barrels) 1959 1967 1975 1983 1989 1998 2001 2006 10 - 100 68 36 10 15 8 77 81 83 101 - 500 91 44 19 12 7 19 19 19 501 - 1000 30 35 13 2 3 1 1 4 1001 - 2000 18 18 13 13 5 4 2 2 2001 - 4000 8 10 12 9 6 7 5 3 4001+ 2 4 15 23 20 20 20 22

Source: Elzinga, in Adams and Brock

History matters

• Same industry, similar countries, different market
• structures. Why?
• Branding (e.g., Heinz and Campbell’s in UK and US)
• Learning curves and other self-reinforcing processes
• Multiple technologies and multiple free-entry equilibria

Evolution of new industries

10 20 30 1975 1980 1985 1990 1995 2000 2005 2010 2015 # firms in hard drive industry Year active firms entries exits

Exogenous and endogenous entry costs

• Compare Portugal (S = 1) and the US (S = 50)
• Basic model predicts
• nUS ≈ (a − c)
• SUS

F − 1 ≈ (a − c)

• 50 SP

F − 1 ≈ √ 50 nP

• This is about right in the cement industry
• Beer industry:

nP = 2, whereas nUS = 3. Why does model fail?

Endogenous entry costs

• Much of the entry cost into (national brand) beer is advertising
• Advertising expenditures are roughly proportional to sales (when

comparing various countries)

• Hence, as S increases, so does F
• In the limit, if F is proportional to S, then

n remains flat w.r.t. S.

• n =
• (a − c)
• S

F − 1

• =
• (a − c)
• S

k S − 1

• =
• (a − c)
• 1

k − 1

• Prediction: C4 decreasing (

n increasing) in S. However, relation is flatter in advertising-intensive industries

Advertising intensity

Low-adv industries A/RS (%) High-adv industries A/RS (%) Salt 0.26–0.45 Frozen food 1.2–7.1 Sugar 0.06–0.24 Soup 2.7–6.0 Flour 0.17–0.96 Margarine 2.3–10.2 Bread 0.02–0.42 Soft drinks 1.2–5.4 Processed meat 0.30–0.70 RTE cereals 8.34–12.9 Canned vegetables 0.29–0.71 Mineral water 1.5–5.0 Sugar confectionery 1.4–6.0 Chocolate confectionery 2.9–6.5 R&G coffee 1.9–16.7 Instant coffee 2.2–11.1 Biscuits 1.9–8.0 Pet foods 4.0–8.4 Baby foods 0.9–4.2 Beer 1.0–5.43

Low- and high-advertising industries

50 100 2 4 6 8 10

C4 (%) ln(size/MES)

50 100 2 4 6 8 10

C4 (%) ln(size/MES) MES denotes minimum efficient scale. Used to compare market size across industries.