In cases of losses on the exam, always choose for the triangle.
Congestion as an external effect
r* = mec in the optimum [not in the free-market equilibrium].
The efficient outcome in the market does not satisfy social expectations because it does not
consider the marginal external cost (MEC), which is the additional cost imposed on others by
, a road user when they are on the road. The optimal toll (r*) is the toll that will lead to the
most efficient outcome, which is where the marginal cost equals the marginal benefit,
considering the MEC.
To achieve the optimal outcome, the toll should be raised, which will lead to a decrease in
demand for trips and a decrease in the external costs imposed on others. The optimal toll may
vary depending on the time and location, with higher tolls during peak hours and lower tolls
during off-peak hours.
Causes of market power
- Economies of scale
o Production becomes more efficient when the scale of the firm increases.
o Falling average costs when production expands, e.g. due to large fixing costs
[in terms of transport, fixed costs can be ownership of a vehicle].
- Economies of scope
o The average cost goes down, not because the scale of a single output increases,
but the firm offers multiple products.
o When a company produces a variety of products, it can take advantage of
common production processes, inputs, and distribution channels. This reduces
the costs associated with producing each product individually.
- Government policies
o There are reasons why the government might restrict entry into markets:
§ Instable markets: both loss → 1 bankrupt → monopolist → entry →
both loss → situation all over again.
§ Wasteful competition: occurs when multiple companies produce
similar goods or services and invest in their own production resources
and distribution networks, leading to higher costs and inefficiencies.
§ Price wars: setting prices equal to marginal cost, leading to losses for
all firms involved.
§ Destructive competition: firms set prices so low that they are below
their marginal cost, leading to a quick knockout of their opponents and
a potential for a monopolist to emerge.
Congestion as an external effect
r* = mec in the optimum [not in the free-market equilibrium].
The efficient outcome in the market does not satisfy social expectations because it does not
consider the marginal external cost (MEC), which is the additional cost imposed on others by
, a road user when they are on the road. The optimal toll (r*) is the toll that will lead to the
most efficient outcome, which is where the marginal cost equals the marginal benefit,
considering the MEC.
To achieve the optimal outcome, the toll should be raised, which will lead to a decrease in
demand for trips and a decrease in the external costs imposed on others. The optimal toll may
vary depending on the time and location, with higher tolls during peak hours and lower tolls
during off-peak hours.
Causes of market power
- Economies of scale
o Production becomes more efficient when the scale of the firm increases.
o Falling average costs when production expands, e.g. due to large fixing costs
[in terms of transport, fixed costs can be ownership of a vehicle].
- Economies of scope
o The average cost goes down, not because the scale of a single output increases,
but the firm offers multiple products.
o When a company produces a variety of products, it can take advantage of
common production processes, inputs, and distribution channels. This reduces
the costs associated with producing each product individually.
- Government policies
o There are reasons why the government might restrict entry into markets:
§ Instable markets: both loss → 1 bankrupt → monopolist → entry →
both loss → situation all over again.
§ Wasteful competition: occurs when multiple companies produce
similar goods or services and invest in their own production resources
and distribution networks, leading to higher costs and inefficiencies.
§ Price wars: setting prices equal to marginal cost, leading to losses for
all firms involved.
§ Destructive competition: firms set prices so low that they are below
their marginal cost, leading to a quick knockout of their opponents and
a potential for a monopolist to emerge.
