The Currency Monopoly (With Active Table of Contents)
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This wave eliminated or reduced government restrictions on the firms that could enter, the prices that could be charged, and the quantities that could be produced in many industries, including telecommunications, airlines, trucking, banking, and electricity. Around the world, from Europe to Latin America to Africa and Asia, many governments continue to control and limit competition in what those governments perceive to be key industries, including airlines, banks, steel companies, oil companies, and telephone companies.
Visit this website for examples of some pretty bizarre patents. Businesses have developed a number of schemes for creating barriers to entry by deterring potential competitors from entering the market. One method is known as predatory pricing , in which a firm uses the threat of sharp price cuts to discourage competition.
Predatory pricing is a violation of U. Consider a large airline that provides most of the flights between two particular cities.
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A new, small start-up airline decides to offer service between these two cities. The large airline immediately slashes prices on this route to the bone, so that the new entrant cannot make any money.
After the new entrant has gone out of business, the incumbent firm can raise prices again. After this pattern is repeated once or twice, potential new entrants may decide that it is not wise to try to compete. Small airlines often accuse larger airlines of predatory pricing: in the early s, for example, ValuJet accused Delta of predatory pricing, Frontier accused United, and Reno Air accused Northwest.
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In , the Justice Department ruled against American Express and Mastercard for imposing restrictions on retailers who encouraged customers to use lower swipe fees on credit transactions. In some cases, large advertising budgets can also act as a way of discouraging the competition. If the only way to launch a successful new national cola drink is to spend more than the promotional budgets of Coca-Cola and Pepsi Cola, not too many companies will try. A firmly established brand name can be difficult to dislodge.
Table 1 lists the barriers to entry that have been discussed here. This list is not exhaustive, since firms have proved to be highly creative in inventing business practices that discourage competition. When barriers to entry exist, perfect competition is no longer a reasonable description of how an industry works.
When barriers to entry are high enough, monopoly can result. Barriers to entry prevent or discourage competitors from entering the market. These barriers include: economies of scale that lead to natural monopoly; control of a physical resource; legal restrictions on competition; patent, trademark and copyright protection; and practices to intimidate the competition like predatory pricing. Intellectual property refers to legally guaranteed ownership of an idea, rather than a physical item. The laws that protect intellectual property include patents, copyrights, trademarks, and trade secrets.
A natural monopoly arises when economies of scale persist over a large enough range of output that if one firm supplies the entire market, no other firm can enter without facing a cost disadvantage.
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Return to Figure 1. Suppose a new firm with the same LRAC curve as the incumbent tries to break into the market by selling 4, units of output. If the incumbent continues to produce 6, units, how much output would be supplied to the market by the two firms? Estimate what would happen to the market price as a result of the supply of both the incumbent firm and the new entrant.
Approximately how much profit would each firm earn? Skip to content Increase Font Size. Chapter 9. Learning Objectives By the end of this section, you will be able to:.
Distinguish between a natural monopoly and a legal monopoly. Explain how economies of scale and the control of natural resources led to the necessary formation of legal monopolies Analyze the importance of trademarks and patents in promoting innovation Identify examples of predatory pricing. Self-Check Questions Classify the following as a government-enforced barrier to entry, a barrier to entry that is not government-enforced, or a situation that does not involve a barrier to entry. A patented invention A popular but easily copied restaurant recipe An industry where economies of scale are very small compared to the size of demand in the market A well-established reputation for slashing prices in response to new entry A well-respected brand name that has been carefully built up over many years Classify the following as a government-enforced barrier to entry, a barrier to entry that is not government-enforced, or a situation that does not involve a barrier to entry.
A city passes a law on how many licenses it will issue for taxicabs A city passes a law that all taxicab drivers must pass a driving safety test and have insurance A well-known trademark Owning a spring that offers very pure water An industry where economies of scale are very large compared to the size of demand in the market Suppose the local electrical utility, a legal monopoly based on economies of scale, was split into four firms of equal size, with the idea that eliminating the monopoly would promote competitive pricing of electricity.
What do you anticipate would happen to prices? If Congress reduced the period of patent protection from 20 years to 10 years, what would likely happen to the amount of private research and development? Review Questions How is monopoly different from perfect competition? What is a barrier to entry? Give some examples. What is a natural monopoly? What is a legal monopoly? What is predatory pricing?
How is intellectual property different from other property? By what legal mechanisms is intellectual property protected? How do you suppose their barriers to entry were weakened? Why are generic pharmaceuticals significantly cheaper than name brand ones? For many years, the Justice Department has tried to break up large firms like IBM, Microsoft, and most recently Google, on the grounds that their large market share made them essentially monopolies.
In a global market, where U. Intellectual property laws are intended to promote innovation, but some economists, such as Milton Friedman, have argued that such laws are not desirable. In the United States, there is no intellectual property protection for food recipes or for fashion designs. Considering the state of these two industries, and bearing in mind the discussion of the inefficiency of monopolies, can you think of any reasons why intellectual property laws might hinder innovation in some cases?
Problems Return to Figure 1. This is not a barrier to entry. This is a barrier to entry, but it is not government-enforced. This is a barrier to entry, but it is not directly government enforced.
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This is a government-enforced barrier to entry. This is an example of a government law, but perhaps it is not much of a barrier to entry if most people can pass the safety test and get insurance. Trademarks are enforced by government, and therefore are a barrier to entry. This is probably not a barrier to entry, since there are a number of different ways of getting pure water. Because of economies of scale, each firm would produce at a higher average cost than before.
They would each have to build their own power lines. As a result, they would each have to raise prices to cover their higher costs. The policy would fail.
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Shorter patent protection would make innovation less lucrative, so the amount of research and development would likely decline. Previous: Introduction to a Monopoly. Next: 9.
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