UNIVERSITY OF CAPE TOWN 
SCHOOL OF ECONOMICS 
ECO1010F ‐ TUTORIAL 8 
 
 
Homework (55 marks) 
 
DUE: In your tutor’s box at reception on Monday 9 May by 9am 
 
Please answer all questions and hand in all answers, except for the discussion question. 
 

Multiple choice questions  
1. Your uncle is a sugar farmer in KwaZulu‐Natal. He recently told you that he produced “the sweetest 
sugar known to man.”  If his claim is true (and he can convince consumers of this), then 
A. he can make profits in the long‐run. 
B. he can make profits in the short‐run by increasing price and quantity. 
C. he faces a downward sloping demand curve and his quantity decisions will affect market price 
for his potatoes. 
D. it is possible for him to make a profit in the short‐run, but in the long‐run competition will force 
his profits to zero. 
E. both C and D are true 
 
2. A member of a cartel would be most likely to increase its profits by 
 
A. cheating on the cartel agreement by charging a lower price than other cartel members 
(assuming it did not get caught cheating). 
B. setting its price above that of other cartel members. 
C. cheating on the cartel agreement by producing more than its assigned quota (assuming it did 
not get caught cheating). 
D. restricting its output below the cartel‐set production quota in order to drive price up. 
E. insisting that the cartel continually raise the price it charges. 
 
3. A monopolistically competitive market might be considered inefficient because 
 
A. marginal cost exceeds average revenue. 
B. the firm faces the problem of excess capacity, but only in the short run. 
C. firms earn normal profits in the long run 
D. price exceeds marginal cost. 
E. marginal cost does not cut average total cost at its minimum 
4. Suppose that two firms are engaged in a game of strategy and achieve a Nash equilibrium. This 
equilibrium is one in which 
 
A. both firms earn and divide a monopoly profit. 
B. each firm will often adapt its strategy. 
C. each firm will consider its decisions optimal, given the decisions of the other firm. 
D. both firms will cooperate in order to maximize joint profits.  
E. none of the above are correct. 
 
5. If a monopolist is able to engage in  perfect price discrimination (the producer is able to charge 
every consumer exactly the price she is willing to pay), 
A. the demand curve is the same as the marginal cost curve. 
B. average revenue equals average cost. 
C. the marginal cost curve is the same as the average cost curve. 
D. the demand curve is the same as the marginal revenue curve. 
E. consumer surplus increases relative to the single price monopolist. 

Structured questions 
 
1. Consider a monopolist with a demand function given by Q = (a/b) – (1/b)P 
a. What is the average revenue curve?              [2] 
(hint: remember that when we draw our demand function, P becomes the dependent variable.) 
 
b. What is the total revenue curve?              [2] 
 
c. What is the marginal revenue curve?              [2] 
 
d. Compare the horizontal intercept, vertical intercept, and slope of the MR and AR functions.  [3] 

2. Use a diagram to illustrate how government pricing policy may cause an otherwise profitable 
monopolist to become unprofitable. Discuss what is likely to happen to the firm in the short run and 
in the long run.                    [8] 
 
 
3. “Monopolistically competitive industries are characterized by too many firms, each of which 
produces too little.” Use a diagram to discuss the validity of this statement.       [9] 
 
 
4. Consider a market in which there are only two identical firms competing. If the firms agree to 
behave like a monopolist, total profit earned in the market would be 100 units. If Firm A cooperates 
whilst Firm B cheats, Firm A earns 30% more profits and Firm B earns 50% less profits than the 
cooperative outcome. If both firms cheat on the agreement, they both earn 25% less than the 
cooperative outcome. Draw up a payoff matrix showing outcomes for both firms under all possible 
scenarios. What will the likely outcome for the market will be? In your answer be sure to discuss: 
 Nash equilibrium 
 the cooperative solution 
 the non‐cooperative solution 
 the significance of the firm’s strategic behaviour           [9] 
 

Discussion questions 
 
1. Read the attached articles about the beer industry. How would you describe the market structure 
faced by beer manufacturers? Can you think of what kinds of demand and supply factors have 
contributed to the dominance of a few firms in this industry? Why don’t the largest four firms meet 
all global demand for beer? 
 
2. How would you describe the market structure faced by hairdressers? What could a hair salon do to 
differentiate itself? 
 
3. “Economies of scale may help to offset some of the economic inefficiencies produced by 
monopolies.” Discuss. 
 
02/05/2011 Breakingviews.com - Rising Beer Price…

August 27 , 2009
Breakingv iews.com

Rising Beer Prices Hint at Oligopoly

Are the big beer companies testing President Obama’s tolerance? Anheuser-Busch InBev — purv ey or of the
president’s preferred brew, Bud Light — and MillerCoors, a joint v enture between SABMiller and Molson
Coors, are raising prices at the same time, during a recession and while beer demand is slumping. With 80
percent of the market between them, the mov e almost begs for an antitrust rev iew.

Both brewing groups ty pically adjust the price on a six -pack ev ery y ear to reflect changes in the costs of
ingredients like barley or hops. But their ability to do so now, while their customers are hurting most,
highlights the pricing power that has accompanied industry consolidation.

While Anheuser-Busch, acquired last y ear by InBev of Belgium, has long held a dominant share of the market,
the number of big play ers has decreased. From 1 947 to 1 995, the number of A merican brewers fell by more
than 90 percent. Though a surge in craft producers followed, few compete directly with mass-market suds like
Budweiser or Miller.

That was fine so long as the Big Three — Anheuser, Miller and Coors Brewing — were at one another’s throats.
And boy , were they .

After South African Breweries bought Miller in 2002, it set out to take market share from Bud. Its bigger riv al
responded by slashing prices. The others were then forced to match. This competition fostered a better
outcome for consumers — indeed, the summer of 2005 was a beer drinkers’ dream.

That’s all changed. SA BMiller and Molson Coors kicked off a joint v enture last y ear that combines the market
powers of the second- and third-largest play ers. InBev , meantime, has no stomach for a price war after its $52
billion debt-financed splurge on A nheuser.

The Obama administration is taking a tougher line on monopolistic behav ior. Christine V arney , the head of
the Justice Department’s antitrust div ision, has ev en signaled a willingness to re-ex amine deals that were
approv ed under the Bush administration.

Taking on Big Beer might be politically popular. Moreov er, there’s precedent for doing so. Y ears ago, the
Justice Department sued to prev ent the merger of Pabst, then the 1 0th-largest brewer, with the 1 8th biggest,
Blatz. The case went to the Supreme Court, which in 1 966 ruled the deal was anticompetitiv e and forced Pabst
to div est Blatz.

That’s not an outcome shareholders of SA BMiller, Molson Coors or A nheuser-Busch InBev would toast with
pleasure.

nytimes.com/2009/08/…/27views.html… 1/1
02/05/2011 Ten Brewers Control 61% of Global Be…
Ten Brewers Control 61% of Global Beer Market
Sun, 2 Jan, 2011

Posted by fred at 09:39

1 comment

Worldwide beer consumption has increased by over 3% per annum during the last ten years and the top ten brewers
now account for over 60% of global beer volume, compared to 38% in 2000. A new report by Rabobank titled ‘Value
creation in the Beer Sector through M&A activities’ looks at changes in the beer sector in the last decade. Following
consolidation, four leading global brewers have emerged. These four beer companies – AB InBev, SABMiller,
Heineken and Carlsberg – have tripled their combined market share since 2000 and have almost quadrupled their
volumes.

Most of the rise in worldwide beer consumption has come from rapid growth in Asia, Eastern Europe, South America
and Africa, while volume growth in developed markets was negligible. “The major brewers reacted to these changes
by entering emerging markets and consolidating in developed markets. This has radically altered the competitive
landscape,” says Francois Sonneville, a food & agribusiness analyst at Rabobank. “The most striking change is the
emergence of a top-four.”

Do Acquisitions Add Value?

According to Francois Sonneville the strategies of the top-four are similar. By making acquisitions they seek to grow
their volumes to benefit from economies of scale. “The advantages of scale have led to improved profitability and the
margin development of the top-four has been better than the rest of the market,” he says.

But many brewers outside the top-four are not convinced that acquisitions can add value at today’s prices. Francois
Sonneville explains: “Over time, acquisitions have become more expensive. So brewers find it difficult to decide the
best course to add value to their business in an increasingly aggressive environment.” Ignoring the developments
however is not an option. As the chief executive of one market leader says in the Rabobank report: “You’re either at
the table or on the menu.”

The Rabobank analyst acknowledges that the traditional method of comparing the return on capital employed (ROCE)
to the weighted average cost of capital (WACC) is ideal for predicting value creation, but difficult to use for evaluation
purposes. Therefore, a second method, devised specifically for this report, compares the top-four with a constructed
peer group of 20 listed major brewers.

The conclusion is that there is no justification for brewers to disregard acquisitions in general for fear of destroying
value. A comparison of developments in return on capital employed shows that the acquisition strategy of the top-four
brewers not only improved margins, but also led ultimately to value creation. Francois Sonneville continues: “Despite
initial pressure on the ROCE from M&A activity, the top-four have managed to outperform the peer group in the long
run. So these four have found it better to be at the table than on the menu.”

beerworkers.org/…/ten-brewers-contr… 1/1
Global beer market trends
Global growth trends in alcohol
During the past five years, on a pure
alcohol-equivalent basis, beer has increased
its share of total alcohol consumption by
more than 200 basis points (bps) to 41.1%.
In 2008 the trend slowed somewhat and
beer’s year-on-year share of total alcohol
consumption remained flat. In emerging
markets, beer has generally shown higher
growth than other alcohol categories as
consumers gradually switch from local,
generally high-alcohol, subsistence products
towards attractively packaged, higher-quality,
commercially produced beer.
In South and Central America, beer’s share
of total alcohol consumption is now 51.5%
with increases in Colombia partly offset
by recent declines in Mexico and Brazil.
In Eastern Europe, beer has been gaining
share from spirits for some time and now
accounts for 48.0% of alcohol consumption.
The past five years have also seen consistent
gains in Africa and Asia where beer’s share
of commercially produced alcohol now
stands at 49.0% and 32.8% respectively –
thanks, partly, to a greater emphasis on
quality and accessibility.
In more mature markets, a wider variety of
alcohol products compete in a sophisticated
marketing and retail environment. In North
America, beer has been losing share as
spirits have benefited from more extensive
marketing and greater availability in certain
states. That said, beer’s share stabilised
at 56.3% during 2008 as the economy
slowed and brewers introduced innovative
products, new packs and marketing
initiatives. In Western Europe, where beer
now claims 36.8%, the wine category has
increased its share as lower-cost offerings
have become more widely available.
Beer growth trends
Over the past five years, the beer category
has maintained a compound annual growth
rate (CAGR) of 4.8% globally.
During this period, Eastern Europe saw
a high single-digit CAGR as personal
6 Global beer market trends SABMiller plc Annual Report 2009
Alcohol category growth
% %
100 Wine
80 Spirits
60
40
Beer
20
02 04 06 08 10 12
Beer share of alcohol trends in major
emerging markets
Source: Datamonitor
disposable incomes increased. In Western
Europe, the prevalence of competitive
categories and a shift in beer consumption
away from on-premise outlets meant that
CAGR was negative. More recently,
consumer spending in Eastern Europe
has also slowed – an indication, along with
already high per capita consumption, that
the beer category is maturing.
Central and South America grew at a CAGR
of 6.3% over the period while North America
had modest growth at a 0.5% CAGR. Africa
shows strong levels of growth with a five-year
CAGR of 6.4%. Asia’s growth in beer over
the past five years remains the highest of any
region, averaging 8.4%. China in particular
has seen growth in beer averaging 10.7%
per year, fuelled by the growing economy
and the increasing availability of beer.
Looking forward, there is a significant
opportunity for the beer category to grow
at the expense of non-commercial forms
of alcohol, particularly in Latin America,
Africa and Asia. In Africa, per capita
levels are still relatively low but accelerating,
and local players are expanding their
portfolios in all segments. Asia, in general,
is seeing rising incomes and higher levels
of beer consumption. In parts of Latin
America, efforts by brewers to transform
the beer category should boost per
capita consumption.
Beer segment trends
Over the past five years, the beer industry
has seen a trend towards consumers trading
up to more expensive beers. As a result,
premium beer has gained more than 40 bps
and now constitutes 17.9% of total beer
sales. For mainstream beer consumers,
particularly in emerging markets, the most
common trade-up proposition is to attractive,
local, premium brands.
In markets such as North America and
Western Europe, premium beer’s share
of total sales is already well above the
global average. On the other hand,
premium’s share of 10.1% in Central
Beer growth trends
10
8
Central & South America
6
North America
Western Europe
Eastern Europe
4
Australasia
2
World
Africa
Asia
Five year beer compound annual growth
rate (CAGR) by region – 2003 to 2008
Source: Canadean
and South America and 3.0% in Africa
shows the significant opportunity that still
exists for premium beer sales in these regions.
There is sizeable potential in Colombia and
Brazil where premium beers respectively
claim 3.7% and 5.6% of total sales.
The trend towards premium beer
consumption has slowed somewhat in
the recent economic downturn. However,
down-trading is limited and there are
notable instances of consumers continuing
to trade up, both into beer and, within the
category, into premium products.
Beer segment trends
Premium 18%
Economy 13%
Mainstream 69%
Segment mix within the global beer
category as at September 2008
Source: Canadean
Industry consolidation trends
Over the past decade, the beer industry has
seen significant consolidation and this trend
continued during 2008. On a pro forma
basis, beer sales by the top 10 players now
total approximately 65% of total global sales
compared to less than 40% at the start of
the century.
In recent major developments, the division
of Scottish and Newcastle’s business
between Carlsberg and Heineken was
completed during the first half of 2008
while InBev acquired Anheuser-Busch
in November 2008.
SABMiller and Molson Coors combined
their operations in the USA and Puerto Rico
to form the new MillerCoors brewing joint
venture from 1 July 2008.