Address the following issues concerning technological and strategic barriers to entry.

(a) Explain the role of economies of scale and (long run) fixed costs as technological barriers to entry. Argue that, even in the case of a natural monopoly, an incumbent monopolist may hold no market power when a market is contestable. In addition, discuss the role of sunk costs and the incumbents response lag in determining its market power (i.e.: the incumbents ability to command a profit).

Define sunk costs, fixed costs, economies of scale, natural monopoly and contestable markets as part of your answer, as well as all the technical terminology you use.

(b) Market incumbents may also rely on strategic barriers to entry. Describe the basic limit pricing model of strategic entry deterrence.

Explain why limit pricing arguments are sometimes said to rely on incredible threats. Using an entry deterrence game, explain the role of sunk actions (for instance, sunk investments) in making such incumbents threats credible.