Tying A third example of a controversial business practice is tying Suppose

Tying a third example of a controversial business

  • Notes
  • sendemailtoknow
  • 22
  • 88% (26) 23 out of 26 people found this document helpful

This preview shows page 15 - 17 out of 22 pages.

Tying A third example of a controversial business practice is tying . Suppose that Makemoney Movies produces two new films— Ironman and Hamlet . If Makemoney offers theaters the two films together at a single price, rather than separately, the studio is said to be tying its two products. When the practice of tying movies was challenged in the courts, the Supreme Court banned it. The court reasoned as follows: Imagine that Ironman is a blockbuster, whereas Hamlet is an unprofitable art film. Then the studio could use the high demand for Ironman to force theaters to buy Hamlet . It seemed that the studio could use tying as a mechanism for expanding its market power. Many economists are skeptical of this argument. Imagine that theaters are willing to pay $20,000 for Ironman and nothing for Hamlet . Then the most that a theater would pay for the two movies together is $20,000—the same as it would pay for Ironman by itself. Forcing the theater to accept a worthless movie as part of the deal does not increase the theater's willingness to pay. Makemoney cannot increase its market power simply by bundling the two movies together. Why, then, does tying exist? One possibility is that it is a form of price discrimination. Suppose there are two theaters. City Theater is willing to pay $15,000 for Ironman and $5,000 for Hamlet . Country Theater is just the opposite: It is willing to pay $5,000 for Ironman and $15,000 for Hamlet . If Makemoney charges separate prices for the two films, its best strategy is to charge $15,000 for each film, and each theater chooses to show only one film. Yet if Makemoney offers the two movies as a bundle, it can charge each theater $20,000 for the movies. Thus, if different theaters value the films differently, tying may allow the studio to increase profit by charging a combined price closer to the buyers' total willingness to pay. Tying remains a controversial business practice. The Supreme Court's argument that tying allows a firm to extend its market power to other goods is not well founded, at least in its simplest form. Yet economists have proposed more elaborate theories for how tying can impede competition. Given our current economic knowledge, it is unclear whether tying has adverse effects for society as a whole. The Microsoft Case The most important and controversial antitrust case in recent years has been the U.S.
Image of page 15
government's suit against the Microsoft Corporation, filed in 1998. Certainly, the case did not lack drama. It pitted one of the world's richest men (Bill Gates) against one of the world's most powerful regulatory agencies (the U.S. Justice Department). Testifying for the government was a prominent economist (MIT professor Franklin Fisher). Testifying for Microsoft was an equally prominent economist (MIT professor Richard Schmalensee). At stake was the future of one of the world's most valuable companies (Microsoft) in one of the economy's fastest-growing industries (computer software).
Image of page 16
Image of page 17

You've reached the end of your free preview.

Want to read all 22 pages?

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern

Stuck? We have tutors online 24/7 who can help you get unstuck.
A+ icon
Ask Expert Tutors You can ask You can ask You can ask (will expire )
Answers in as fast as 15 minutes