Entry Barriers in Markets

Monopoly and Barriers to Entry

A2 Micro EconomicsTutor2u, April 2012

Razor Sharp Competition or Big Barriers to Entry?

V

Barriers to entry and exit• Block potential entrants

from making a profit• Protect the monopoly

power of existing firms• Maintain supernormal

profits in the long run• Barriers to entry make a

market less contestable

Types of Entry Barrier (1)• (1) Structural barriers– Economies of scale (consider a natural monopoly)– Vertical integration (backwards and forwards)– Control of important technologies / commodities– Expertise and reputation of the incumbent– Brand loyalty and brand proliferation– Inherent suspicion among consumers about new ideas

• (2) Strategic barriers– Predatory pricing / limit pricing– Heavy marketing spending / product differentiation

Types of Entry Barrier (2)

• (3) Statutory (legal) barriers– Licences (e.g. professional qualifications, banking licences,

licences to sell alcohol, taxis, run a night club or a casino)– Patents (e.g. In the pharmaceutical industry and in

telecommunications)– Copyrights and Trademarks– Public franchises e.g. Rail franchises, national lottery– Tariffs, quotas and other trade restrictions affecting

imports of goods and services

Licences in Action

Barriers to Entry in the Taxi Market

Patent Protection in a Market

• Patents– Offers legal protection of property rights – Generally valid for 12-20 years– Give the owner an exclusive right to prevent others

from using patented products, inventions, or processes

– Allows protection of intellectual property– If a company successfully sues another it can

demand a sales ban of its competitor's products, or force the loser to pay expensive licence fees.

Patent protection / patent wars

2012 – Many patent battles in digital industries

Discovering the IP in an iPhone

Cost Advantages and Marketing/Branding

• Absolute cost advantages– E.g. economies of scale– Lower unit costs for an

established business• Advertising and Marketing

– Establishing branded products– Makes demand less elastic– Lowers cross price elasticity

• Brand Proliferation– Brand proliferation disguises

from consumers the actual concentration in markets such as detergents, confectionery and household goods.

LRAC

SAC1

SAC2

SAC3

AC

Output

Economies of scale, the size of market demand and entry barriers

Price, Cost

Output (Q)

SAC1

SAC2

SAC3

Demand AR

(industry)

Minimum efficient

scale is high % of market

demand

In contrast .......Price, Cost

Output (Q)

LRAC (firm)

Demand (industry)

200 1000

In contrast .......Price, Cost

Output (Q)

LRAC (firm)

Demand (industry)

200 1000

Here the MES is a

smaller % of industry demand

Low MES – scope for greater market

competition

Barriers to Exit

• Costs associated with exiting an industry• (1) Asset-write-offs – E.G. plant and machinery, stocks

• (2) Closure costs– Redundancy costs, contracts with suppliers– Penalty costs from ending leasing arrangements

• (3) Lost reputation– Lost goodwill, damage to the brand

• Sunk costs are costs incurred when entering a market that are irrecoverable should a firm decide to leave

Reducing entry barriers• Technological

change in markets – e.g. impact of disruptive technologies

• Removal of statutory barriers – market liberalisation

• Globalisation of markets – increasing competition

Tutor2u

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