Cartel
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Cartel • Factors facilitate the formation of cartel: I) The ability to raise the market price. ii) Low expectation of sever punishment. iii) Low organizational cost-existence of few firms, high market concentration, identical product and existence of trade association reduce this cost. • Detecting cheating –if there are few firms in the market, prices do not fluctuate , prices are widely known and all cartel members has the same type of customer it is easy to detect cheating.
Cartel • Cartels with little incentive to cheat: - MC is inelastic [If MC nearly vertical due to full utilization of the capacity] - FC are relatively low compared to the TC. - customers place small frequent order or thers is single sales agent. • Methods to prevent cheating: – -fix more than just price. – Divide the market – Fix market share.
Cartel • . – Use most favored nation clause: this clause in a sales contract guarantees the buyer that the seller is not selling at a lower price to another buyer. – Use meeting competition clause: This clause in a long term supply contract or in a advertisement guarantees the buyer that if another firm offers a lower price , the seller will match it or release the buyer from the contract. – Use trigger price: cartel will be abandoned if price fall below the trigger price.
Cartel •
Consumer s gain as cartel fail: assume there is n number of firms in an industry and this number is fixed i.e. there is no further entry. Firms are identical. the market demand curve is linear Q=a-bp elasticity ε=dQ/dp. p/Q= -bp/(a-bp) Linear MC face by each firm MC=d+eq [q= firm’s output] Under competitive market supply is given by p=MC P=(d+eq) Q=nq=n(p-d/e) Market quilibrium: supply = demand a-bp=n(p-d/e)
Cartel •
pc=ea+ nd/n+be Qc=a-b (ea+nd/n+be) = n( a-bd/n+be)
Let n-j firms form a cartel where j firms ac as firms. Residual demand curve of the cartel Qr=Q-Qnc =Q-jq =a-bp-j(p-d/e) Solving for p=(ae-Qre+jd)/(be+j) Revenue Rm=P.Qr=(ae-Qre+jd)Qr/(be+j)
Cartel • MRm=(ae+ jd)/(be+j) -2e Qr /(be+j) qm=Qm/n-j MCm=d+ eQm/(n-j) Profit maximizing output for the catel given by MR=MC Qr=Qm Qm=(a-bd)(n-j)/(2n-j+be) dQm/dj is negative , therfore showing that as the number of competitive firms increases the cartel output falls
Cartel • Cartels with little incentive to cheat: - MC is inelastic [If MC nearly vertical due to full utilization of the capacity] - FC are relatively low compared to the TC. - customers place small frequent order or thers is single sales agent. • Methods to prevent cheating: – -fix more than just price. – Divide the market – Fix market share.
Cartel • . – Use most favored nation clause: this clause in a sales contract guarantees the buyer that the seller is not selling at a lower price to another buyer. – Use meeting competition clause: This clause in a long term supply contract or in a advertisement guarantees the buyer that if another firm offers a lower price , the seller will match it or release the buyer from the contract. – Use trigger price: cartel will be abandoned if price fall below the trigger price.
Cartel •
Consumer s gain as cartel fail: assume there is n number of firms in an industry and this number is fixed i.e. there is no further entry. Firms are identical. the market demand curve is linear Q=a-bp elasticity ε=dQ/dp. p/Q= -bp/(a-bp) Linear MC face by each firm MC=d+eq [q= firm’s output] Under competitive market supply is given by p=MC P=(d+eq) Q=nq=n(p-d/e) Market quilibrium: supply = demand a-bp=n(p-d/e)
Cartel •
pc=ea+ nd/n+be Qc=a-b (ea+nd/n+be) = n( a-bd/n+be)
Let n-j firms form a cartel where j firms ac as firms. Residual demand curve of the cartel Qr=Q-Qnc =Q-jq =a-bp-j(p-d/e) Solving for p=(ae-Qre+jd)/(be+j) Revenue Rm=P.Qr=(ae-Qre+jd)Qr/(be+j)
Cartel • MRm=(ae+ jd)/(be+j) -2e Qr /(be+j) qm=Qm/n-j MCm=d+ eQm/(n-j) Profit maximizing output for the catel given by MR=MC Qr=Qm Qm=(a-bd)(n-j)/(2n-j+be) dQm/dj is negative , therfore showing that as the number of competitive firms increases the cartel output falls
