public good is one where use by one person cannot be excluded by another person and where there is no rivalry between users. Excludability focuses on whether it is feasible to block certain people from using the resource or not. Rivalry focuses on whether there is competition among consumers for the given good. Material in the public domain is free for anyone to use as one wishes. Since the public good is free, there is no market mechanism that can control its use.
As the table below shows, this defines four distinct kinds of goods. The most common are the private goods, and most products fall into this category. Goods where there is no rivalry, yet consumers are still excludable, are called club goods. The name signifies that (ideally) the members of a club are in no rivalry with each other (if the club is sufficiently well-endowed), but they have the chance of limiting access to others. Living at a country club is an example of this behavior. A more common example is the use of a given software. Buying Microsoft Office, does not reduce the number of available Microsoft Office packages for another, yet others can be excluded from the consumption of the product through the mandatory on-line registration process. Club goods have artificial scarcity. The lack of rivalry means they are available in great abundance but are kept scarce to keep their price up and/or to retain exclusivity.
| Rivalry | No rivalry | |
| Excludable | Private goods most normal products like clothes, beverages, etc. | Club goods golf courses, parks, software artificial scarcity |
| Non-excludable free-rider problem | Common-pool resources fish in a fishery, grass in a pasture negative externality | Public goods (air, defense) |
Common-pool resources have the opposite limitation. They represent some scarce resource, but it is problematic to exclude people from their consumption. Because of this, an overuse of the resource materializes (as everyone considers it a “free” resource), and the overuse can lead to depletion altogether.
The free-rider problem is shared among common-pool resources and public goods. Since consumers cannot be excluded, it is very hard to incentivize them to pay anything for the good or service.
Market Structures
Perfect competition assumes that there are many small sellers in the marketplace. There are three market structures that disrupt that assumption: monopoly, oligopoly, and monopolistic competition.
A monopoly is a market structure where a single entity controls the supply. A monopsony is a market structure where a single entity controls the demand. In either case, the market participant is never in competition with anyone else, and its only concern is the demand curve (in case of monopolies) or the supply curve (in case of monopsonies). Based on its own costs, it can pick a production level or a consumption level and set a price on the demand curve or supply curve that will maximize its own profit, without having to fear competitive pressures. This generally leads to both higher prices and lower quantities produced, compared to the theoretical ideal of the perfect competition.
Monopolies form for a variety of reasons. Mainly, it can be difficult, excessively costly, risky, or impossible for new firms to enter the market. For instance, there can be limited access to physical resources or lack of an economy of scale.
In situations like this, the consumer might face either monopoly-like conditions (apparently discreet firms, who coordinate their pricing strategies), or actual monopolies, such as when firms in a given industry agree to not compete with each other within the same geographical area. Cases like this are called local monopolies. Notable examples in the United States are local telephone and Internet companies. Looking at the US market as a whole, it seems oligopolistic but in reality, carriers engage in “parallel conduct” by operating next to one another while not actually competing directly.14
Finally, since being a monopoly can result in extra profit, firms aim to become one whenever possible. When a firm seeks to a benefit from the government by its lobbying efforts instead of providing land, labor, capital or innovation, that is known as rent seeking behavior. In an economic sense, these resources are wasted, as they are not spent to increase the output of society. Instead, they are used to increase the gain of one company at the expense of other companies and consumers. This frequently reduces total output.
Monopolistic competition works like a perfectly competitive industry, but it lacks the homogeneous products requirement. These are far more common than perfectly competitive industries, as consumers cherish variety and are thus willing to pay higher prices for goods if they have a selection. Differentiation is the process where firms choose to ensure that their product is distinct (or perceived to be distinct by the consumers) from those of their competitors.
In a monopolistically competitive market, there is no single big market with many small producers and consumers. Instead, there are many miniscule markets with tiny pseudo-monopolies as suppliers and a big shared batch of consumers, who consider all of the little sub-markets as perfect substitutes. Slight price and perceived-quality changes can drastically alter the demand among such suppliers.
Oligopoly is a very common market structure, where a small number of large firms dominate the market. This is the general outcome of capitalism’s drive for increasing concentration in pursuit of economies of scale—industries that cannot crystallize into a monopoly remain governed by a few powerful entities.
The economic analysis of oligopolies is significantly more complicated than that of other market structures. While companies in monopoly and perfect competition can ignore other entities, in the case of an oligopoly, the decision of other dominant firms will have extreme consequences. Because of this, isolated decision making techniques are generally inadequate for oligopolies. This is where game theory serves as an excellent tool of inquiry.
Many oligopolies tend to cooperate with each other, forming tacit collusions or outright cartels. In this case an oligopoly operates very similarly to a monopoly, producing less and charging more than a perfectly competitive firm. Strategies for collusion and maintaining cooperation can be analyzed using game theory.
Case Problems
The Eastern Railroad Presidents Conference, a group of rail companies, lobbied the Pennsylvania State Legislature for an advertising campaign that disparaged Noerr Motor Freight, Inc. and the rest of the trucking industry in the state. The statute was vetoed, but the trucking companies claim to have suffered some losses from the debate surrounding the law and sued under the Clayton Antitrust Act (1914). Does the U.S. Const. Amend. I protect the Eastern Railroad Presidents Conference’s defamatory efforts?15
Berkey Photo, Inc. competes with Eastman Kodak Company in photofinishing services—the conversion of exposed film into finished prints, slides, or movies. Kodak made a 110 photofinishing system and a Pocket Instamatic camera which sold nearly three million units in 1972. Berkey tried to enter the market the following year with its own camera for the 110 photofinishing system but barely sold 42,000 of its own units that suffered from latent defects. Berkey complains that Kodak illegally monopolized the camera market. Does the creation and use of superior technology constitute an illegal monopoly?16
Behavioral Economics
Another assumption of perfect competition is that decision makers are rational. Rationality requires that the decision makers have a perfect understanding of their own goals and every time they make a decision, they will choose the option that brings them closer to attaining their goals.
In
