Types of market Structure 1. Pure Monopoly or Monopoly 2. Oligopoly 3. Pure Competition 4.

Monopolistic Competition

Number of Buyers

Number of Sellers

Kind of Product

Price Determination

Exit / Entry

Presence of Non Price Competition

A monopoly is a market structure in which there is only one producer/seller for a product. In other words, the single business is the industry. Entry into such a market is restricted due to high costs or other impediments, which may be economic, social or political. For instance, a government can create a monopoly over an industry that it wants to control, such as electricity. Another reason for the barriers against entry into a monopolistic industry is that oftentimes, one entity has the exclusive rights to a natural resource. For example, in Saudi Arabia the government has sole control over the oil industry. A monopoly may also form when a company has a copyright or patent that prevents others from entering the market. Pfizer, for instance, had a patent on Viagra. In an oligopoly, there are only a few firms that make up an industry. This select group of firms has control over the price and, like a monopoly, an oligopoly has high barriers to entry. The products that the oligopolistic firms produce are often nearly identical and, therefore, the companies, which are competing for market share, are interdependent as a result of market forces. Assume, for example, that an economy needs only 100 widgets. Company X produces 50 widgets and its competitor, Company Y, produces the other 50. The prices of the two brands will be interdependent and, therefore, similar. So, if Company X starts selling the widgets at a lower price, it will get a greater market share, thereby forcing Company Y to lower its prices as well. There are two extreme forms of market structure: monopoly and, its opposite, perfect competition. Perfect competition is characterized by many buyers and sellers, many products that are similar in nature and, as a result, many substitutes. Perfect competition means there are few, if any, barriers to entry for new companies, and prices are determined by supply and demand. Thus, producers in a perfectly competitive market are subject

to the prices determined by the market and do not have any leverage. For example, in a perfectly competitive market, should a single firm decide to increase its selling price of a good, the consumers can just turn to the nearest competitor for a better price, causing any firm that increases its prices to lose market share and profits.

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market structure Definition The interconnected characteristics of a market, such as the number and relative strength of buyers and sellers and degree of collusion among them, level and forms of competition, extent of product differentiation, and ease of entry into and exit from the market Four basic types of market structure are (1) Perfect competition: many buyers and sellers, none being able to influence prices. (2) Oligopoly: several large sellers who have some control over the prices. (3) Monopoly: single seller with considerable control over supply and prices. (4) Monopsony: single buyer with considerable control over demand and prices.

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Market Structures - Summary

Another summary note on the key characteristics of market structure. Market structure is best defined as the organisational and other characteristics of a market. We focus on those characteristics which affect the nature of competition and pricing but it is important not to place too much emphasis simply on the market share of the existing firms in an industry. Traditionally, the most important features of market structure are:

The number of firms (including the scale and extent of foreign competition) The market share of the largest firms (measured by the concentration ratio see below) The nature of costs (including the potential for firms to exploit economies of scale and

also the presence of sunk costs which affects market contestability in the long term)

The degree to which the industry is vertically integrated - vertical integration explains the process by which different stages in production and distribution of a product are under the ownership and control of a single enterprise. A good example of vertical integration is the oil industry, where the major oil companies own the rights to extract from oilfields, they run a fleet of tankers, operate refineries and have control of sales at their own filling stations. The extent of product differentiation (which affects cross-price elasticity of demand) The structure of buyers in the industry (including the possibility of monopsony power) The turnover of customers (sometimes known as market churn) i.e. how many customers are prepared to switch their supplier over a given time period when market conditions change. The rate of customer churn is affected by the degree of consumer or brand loyalty and the influence of persuasive advertising and marketing

Summary of market structures

Characteristic Number of firms Type of product Barriers to entry Supernormal short run profit Supernormal long run profit Pricing Profit maximization? Non price competition Economic efficiency Innovative behaviour

Perfect Competition Many Homogenous None Price taker High Weak

Oligopoly Few Differentiated High Price maker Not always Low Very Strong

Monopoly One Limited High Price maker Usually, but not always Low Potentially strong

Market structure and innovation

Which market conditions are optimal for effective and sustained innovation to occur? This is a question that has vexed economists and business academics for many years. High levels of research and development spending are frequently observed in oligopolistic markets, although this does not always translate itself into a fast pace of innovation. The recent work of William Baumol (2002) provides support for oligopoly as market structure best suited for innovative behaviour. Innovation is perceived as being mandatory for businesses that need to establish a cost-advantage or a significant lead in product quality over their rivals. As soon as quality competition and sales effort are admitted into the sacred precincts of theory, the price variable is ousted from its dominant position..But in capitalist reality as distinguished from its textbook picture, it is not that kind of competition which counts but the competition which commands a decisive cost or quality advantage and which strikes not at the margins of profits and the outputs of the existing firms but at their foundations and their very lives. This kind of competition is as much more effective than the other as a bombardment is in comparison with forcing a door Supernormal profits persist in the long-run in an oligopoly and these can be used to finance R&D Government policy and innovation in the economy The current government places a huge emphasis on the potential value from more innovation across all sectors of the British economy. This is because of the economic gains that follow: For example: Improvements in the competitiveness of UK producers in home and overseas markets. Innovation helps to protect and develop comparative advantage. Higher productivity will keep down unit labour costs against the challenge of low-cost competition from emerging market economies. Innovation is a potential source of higher long-term trend growth indeed supply creates its own demand (Says Law) and can give businesses much higher rates of return on their investment than an expansion of their existing capacity and product range. Innovation can also create many thousands of new jobs even though some jobs may be lost because of the adoption of labour-saving technology. The new jobs emerge in training & other services together with the demand for labour that comes from expanding output to supply an expansion to new markets. There might also be significant social benefits (positive externalities) from innovative behaviour for example the delivery of new health treatments or innovations that provide safer forms of transport.

Government policy and innovation

Supply-side strategies are usually linked directly with attempts to promote more innovative behaviour. Indeed the focus of government policy is firmly focused on improvements in the microeconomics of markets. Consider this extract from a recent speech by Gordon Brown If the past century of economic policymaking has taught us anything, it is that achieving strong long term growth often has less to do with macroeconomic policies that with good microeconomics, including fostering competitive markets that reward innovation and restricting government to only a limited role. Which policies might encourage more innovation? Tax credits / investment allowances Policies to encouragement small business creation and entrepreneurship Toughening up of competition policy to expose cartel behaviour, but to allow and promote joint ventures to fund research and development Lower corporation taxes to encourage innovative foreign companies to establish in Britain Increased funding for research in our universities

Important developments:

1. Increasingly most innovation is done by smaller firms indeed multinational corporations

are now out-sourcing their research and development spending to small businesses at home and overseas much is being shifted to cheaper locations offshorein India and Russia

2. Innovation is now a continuous process in part because the length of the product cycle
is getting shorter as innovations are rapidly copied by competitors, pushing down profit margins and (according to a recent article in the economist) transforming today's consumer sensation into tomorrow's commonplace commodity a good example of this is the introduction of two major competitors to the anti-impotence drug Viagra

3. Innovation is not something left to chance the most successful firms are those that
pursue innovation in a systematic fashion

4. Demand innovation is becoming more important: In many markets, demand is either

stable or in long-run decline. The response is to go for demand innovation - discovering new forms of demand from consumers and adapting an existing product to meet them the toy industry is a classic example of this

5. Globalisation is driving innovation and not just in manufactured goods but across a vast
range of household and business services and in particular in high-value knowledge industries Classic examples of innovation first achieved by smaller firms:

Air-conditioning Hydraulic brakes Digital X-Rays Soft contact lenses Quick frozen food Zip fastener

price and output under a pure monopoly

THE MONOPOLISTS DEMAND CURVE- CONSTRAINTS ON MONOPOLY Be careful of saying that "monopolies can charge any price they like" - this is wrong. It is true that a firm with monopoly has price-setting power and will look to earn high levels of profit. However the firm is constrained by the position of its demand curve. Ultimately a monopoly cannot charge a price that the consumers in the market will not bear. A pure monopolist is the sole supplier in an industry and, as a result, the monopolist can take the market demand curve as its own demand curve. A monopolist therefore faces a downward sloping AR curve with a MR curve with twice the gradient of AR. The firm is a price maker and has some power over the setting of price or output. It cannot, however, charge a price that the consumers in the market will not bear. In this sense, the position and the elasticity of the demand curve acts as a constraint on the pricing behaviour of the monopolist. Assuming that the firm aims to maximise profits (where MR=MC) we establish a short run equilibrium as shown in the diagram below. Assuming that the firm aims to maximise profits (where MR=MC) we establish a short run equilibrium as shown in the diagram below.

The profit-maximising output can be sold at price P1 above the average cost AC at output Q1. The firm is making abnormal "monopoly" profits (or economic profits) shown by the yellow shaded area. The area beneath ATC1 shows the total cost of producing output Qm. Total costs equals average total cost multiplied by the output. A CHANGE IN DEMAND A change in demand will cause a change in price, output and profits. In the example below, there is an increase in the market demand for the monopoly supplier. The demand curve shifts out from AR1 to AR2 causing a parallel outward shift in the monopolist's marginal revenue curve (MR1 shifts to MR2). We assume that the firm continues to operate with the same cost curves. At the new profit maximising equilibrium the firm increases production and raises price. Total monopoly profits have increased. The gain in profits compared to the original price and output is shown by the light blue shaded area.

Not all monopolies are guaranteed profits - there can be occasions when the costs of production are greater than the average revenue a monopolist can charge for their products. This might occur for example when there is a sharp fall in market demand (leading to an inward shift in the average revenue curve). In the diagram below notice that ATC lies AR across the entire range of output. The monopolist will still choose an output where MR=MC for this reduces their losses to the minimum amount.

How do monopolies continue to earn supernormal profits in the long run - revise barriers to entry. See also the pages on price discrimination Mobile Phone Operators and Supernormal Profits In the first of its mobile market reviews, OFTEL, the telecommunications industry regulators has found that mobile phone operators are making profits greater than would be expected in a fully competitive market. Their research finds that mobile phone charges have fallen by nearly a quarter since January 1999. And, the level of consumer satisfaction with their mobile phone service continues to run high (at around 90%). But the OFTEL review finds that consumers do not have sufficient information on the range of prices available from the mobile phone networks and they are being overcharged for calls between mobile networks. OFTEL have stated that some sectors of the industry may require more intensive regulation unless there are improvements in pricing in the coming months.

pure monopoly A market in which one company has control over the entire market for a product, usually because of a barrier to entry such as a technology only available to that company.

An introduction to pure monopoly

Pure Monopoly: a market structure in which:

one firm sells a unique product - no substitutes entry is blocked the single firm (control over product price) However, still needs to deal with customers They have considerable (not whole) control over price. nonprice competition Characteristics: Single Seller: only one firm = industry = monopoly.

Demand curve is the demand curve for industry and firm No close substitute: As a monopolistic firm is the only firm producing a certain product, there are no substitutes that can compete with the firm's product. - unique product Price Maker:The pure monopolist controls the total quantity supplied and price. Increase and decrease output to control price Blocked entry:Barriers to entry keep potential competitors from entering the indutry, thus there are no immediate competitors. Economies of scale--difficult for new, small firms to compete with the monopoly's low ATC Legal protection in forms of patents, licenses, and copyrights Strategic pricing--monopoly's power to adjust price and run at short term losses in order to outcompete new competitors Control of essential resources Nonprice competition:The product produced by a pure monopolist may be either standarized (as with natural gas and electricity) or differentiated (as with Windows or Frisbees). Nonprice competition (i.e. advertisement) Examples of Monopoly:

Government owned/regulated public utilities (i.e. natural gas, electric companies, water, cable TV, local telephone company) Natural Monopolies => Professional sports teams - they are the only suppliers of a particular service. e.g. There is only one major league baseball team in Seattle, and only one professional basketball team in Utah.

Dual Objectives of the Study of Monopoly: 1. We study the monopoly because it is a unique market structure 2. Monopolies help us to understand the more common market stuctures of monopositic competition and oligopoly

Barriers to entry
In a pure monopoly are the strong barriers to entry effectively block all potential competition. Economies of Scale:

Modern technology in some industries cause extensive economies of scale. Only single large firm can achieve low ATC. When ATC , only single producer (monopolist) can produce any particular output at min. TC Single firm produces x units at lower cost than could more than 2 firms with combined output of x units -- benefits society in this case as cost (therefore, price is minimal). How do economies of scale act as an entry barrier and protect monopolist from competition? Small-scale producers cannot achieve low ATC. Therefore they can't achieve normal profit which results in consistent lost, which keeps the producers from surviving. e.g. The plane industry requires expensive machines, so new companies would have to sell their planes at a very high price to make up for their costs, while companies like Boeing have the ability to sell their planes for lower prices. Financial obstacles + starting big risks prohibitive. Natural monopoly when market demand cuts long-run ATC curve when ATC is still declining. Society better off with single monopoly producing at lower costs. Doesn't guarantee consumer benefits since monopolist can choose not to minimize prices to maximize profit. Therefore government will set a price celling. Company will not produce at the socially optimal level.

Legal Barriers to Entry:

Patent: exclusive right of an inventor to use, or to allow another to use, her or his invention. protect the inventor from rivals who would use the invention w/o having shared in effort and expense in developing it. provides the inventor with a monopoly position for the life of patent. profit from one patent can finance the research required to develop new patentable products. eg. In the pharmaceutical industry, patents of prescription drugs have produced large monopoly profts that help finance the discovery of new patentable medicine (therefore, monopoly power achieved through patents can be self-sustaining).

Licensing : Government using its authority to limit entry into industry. Limited number of licenses given to radio/television stations, taxicab drivers, etc.; in this way, the market is controled so that new firms beyond a certain number cannot enter the industry to drive down prices and profits. Sometimes the government also "licenses" itself to provide some product and thereby create a public monopoly. eg. lotteries, state-owned liquor retail outlets. Ownership or Control of Essential Resources: A monopolist can use private property as an obstacle to potential rivals. eg. a firm that owns or controls a resource essential to the production process can prohibit the entry of rival firms. For example, the International Nickel Company of Canda (now known as Inco) used to control 90 percent fo the world's known nickel reserves. A new firm trying to enter the nickel market at that time would have an extremely hard time since the monopoly had all the resources. Pricing and Other Strategic Barriers to Entry: The monopolist may "create an entry barrier" by: slashing prices to drive consumers towards their firm and away from other firms (Although this results in short term losses, in the long run, the monopoplist can maintain market power and aim for economic profits again). stepping up advertising. taking other strategic actions to make it difficult for entrants to succeed.

Output and price determination

Cost data: Assumption - a pure monopolist hires resources competitively and has the same technology as a purely competitive firm. MR=MC rule: A monopolist seeking to maximize total profit will employ the same rationale as a profit-seeking firm in a competitive industry; they will produce at the point where MR = MC. Profit maximizing price: Find MC= MR and draw a vertical line up to the demand curve. Draw a horizontal line. This is the price they set.

How to determine the profit-maximizing output, profit-maximizing price, & economic profit (or minimized loss) in PM industries: 1. Find the profit-maximizing output at the point where MR = MC. 2. Draw a vertical line upward from Qpm to the demand curve. 3. Determine the economic profit using one of two methods: Method I: Find profit/unit by subtracting ATC of Qpm from Ppm. Then multiply the difference by Qpm to determined economic profit. (In other words, Economic Profit = (P - ATC) x Qpm ) Method II: Find TC by multiplying ATC of Qpm by Qpm. Find TR by multiplying Qpm by Ppm. Then subtract TC from TR to determine economic profit. (In other words, Economic Profit = TR-TC )

No monopoly supply curve: No unique relationship between price and quantity supplied for a monopolist no supply curve Because the monopolist does not equate marginal cost to price, it is possible for different demand conditions to bring about different prices for the same output Misconceptions concerning monopoly pricing: Not Highest Price: Misconception: Monopolists will charge highest price possible because they can manipulate output & price Monopolies still face consumer demand. If the price is too high, consumers won't buy their products, and profits are decreased. Although there are many prices above Pm, monopolists don't charge at those prices because they would yield a smaller-than-maximum total profit. (High prices would potentially reduce sales and total revenue too severely to offset any decrease in total cost) Monopolist seek maximum total profit, NOT the maximum price Total, Not Unit, Profit: Output level may not be at maximum per-unit profit, but additional sales make up for lower unit profit, which in turn maximizes total profit.

Possibility of losses by monopolist: Pure monopolists likelihood of earning economic profit greater than that of purely competitive firms PC long-run destined to earn only normal profit PM has high barriers of entry; therefore, the concept of entry eliminates profits does no apply to PM Pure monopoly does not guarantee profit:

 Monopoly is not immune from upward-shifting cost curves caused by escalating resource prices Monopoly is not immune from changes in tastes that reduce the demand for its product Both of these factors can lead to losses - initially it will persist in operating at a loss and to stop incurring loss, the firm's owners will reallocate their resources
MONOPOLY NONPRICE ACTION Since a monopolist is the only firm in the industry, it appears that there is no need for nonprice action, such as advertising. However, advertising and other nonprice action are used as a form of public relations and for the purpose of avoiding customer antagonism. MONOPOLY POWER OVER PRICE A monopoly has extensive power over the price it may want to charge its customers. The monopolist is sometimes referred to as a price maker. It must be noted, however, that a monopolist does not charge the highest possible price. Instead it charges the price for which its profits are the largest. Moreover, a monopolist does not set a price independently of the volume produced: quite the contrary, price setting is implemented by restricting output. MONOPOLY ENTRY BARRIERS Monopoly exists when entry barriers are present; these may be - legal, from the ownership of a patent or a copyright, - legal, from its appointment as public utility for natural monopolies, - technological, from a secret method of production, - due to large size, age, or good reputation, - stemming from access to a key resource (such as ore), or - resulting from unfair tactics or unfair competition.

UNFAIR COMPETITION Various strategies used by firms to eliminate competitors by forcing them into bankruptcy or preventing new firms from entering the industry, are referred to as unfair competition. They may include - drastic underpricing of products, or - cornering of a resource market. Most of these tactics have been declared illegal in antitrust legislation. MONOPOLY UNIQUE PRODUCT A monopoly exists when a firm is the only producer of a given product. That product is therefore unique to that firm. Such situation is rarely observed because products providing a similar service can usually be found in other industries or regions of the world. The product is unique in the sense that no close substitutes are presently easily available to consumers. PURE MONOPOLY Pure monopoly is a type of market characterized by - a single seller or producer, - a unique product, with no close substitute, - the ability of the seller to ask any price it wishes, - entry to the industry completely blocked by legal, technological or economic barriers, and - no need for nonprice actions, except public relations or goodwill advertising.

Definition of 'Oligopoly'
A situation in which a particular market is controlled by a small group of firms. An oligopoly is much like a monopoly, in which only one company exerts control over most of a market. In an oligopoly, there are at least two firms controlling the market.

Investopedia explains 'Oligopoly'

The retail gas market is a good example of an oligopoly because a small number of firms control a large majority of the market.

oligopoly
A market dominated by a small number of participants who are able to collectively exert control over supply and market prices.

Oligopoly Market Structure

Between the definitions of perfect competition and pure monopoly lie oligopolies and monopolistic competition. An oligopoly is where there are a few sellers with similar or identical products, such as hockey skates (Bauer, CCM). Monopolistic competition has many companies with similar but not identical products. Each firm has monopoly power over what it produces, but products are close substitutes, such as cigarettes, CDs, and computer games. Examples of oligopolies include crude oil businesses and auto manufacturers. The main key to behaviour in an oligopoly, is that companies must take into account what other companies will do. In perfect competition, firms are price-takers and can ignore other firms. In a monopoly, there is only one firm, and it does not take into account what competitors will do. Oligopolists are torn between: 1. cooperating to increase profits by obtaining the monopoly outcome, or;

2. competing to try to gain an advantage over competitors.

oligopoly
An oligopoly is a market dominated by a few large suppliers. The degree of market concentration is very high (i.e. a large % of the market is taken up by the leading firms). Firms within an oligopoly produce branded products (advertising and marketing is an important feature of competition within such markets) and there are also barriers to entry. Another important characteristic of an oligopoly is interdependence between firms. This means that each firm must take into account the likely reactions of other firms in the market when making pricing and investment decisions. This creates uncertainty in such markets - which economists seek to model through the use of game theory. Economics is much like a game in which the players anticipate one another's moves. Game theory may be applied in situations in which decision makers must take into account the reasoning of other decision makers. It has been used, for example, to determine the formation of political coalitions or business conglomerates, the optimum price at which to sell products or services, the best site for a manufacturing plant, and even the behaviour of certain species in the struggle for survival. Adapted from Brittanica The ongoing interdependence between businesses can lead to implicit and explicit collusion between the major firms in the market. Collusion occurs when businesses agree to act as if they were in a monopoly position. KEY FEATURES OF OLIGOPOLY * A few firms selling similar product

* Each firm produces branded products * Likely to be significant entry barriers into the market in the long run which allows firms to make supernormal profits. * Interdependence between competing firms. Businesses have to take into account likely reactions of rivals to any change in price and output THEORIES ABOUT OLIGOPOLY PRICING There are four major theories about oligopoly pricing: (1) Oligopoly firms collaborate to charge the monopoly price and get monopoly profits (2) Oligopoly firms compete on price so that price and profits will be the same as a competitive industry (3) Oligopoly price and profits will be between the monopoly and competitive ends of the scale (4) Oligopoly prices and profits are "indeterminate" because of the difficulties in modelling interdependent price and output decisions THE IMPORTANCE OF PRICE AND NON-PRICE COMPETITION Firms compete for market share and the demand from consumers in lots of ways. We make an important distinction between price competition and non-price competition. Price competition can involve discounting the price of a product (or a range of products) to increase demand. Non-price competition focuses on other strategies for increasing market share. Consider the example of the highly competitive UK supermarket industry where non-price competition has become very important in the battle for sales Mass media advertising and marketing Store Loyalty cards Banking and other Financial Services (including travel insurance) In-store chemists / post offices / creches Home delivery systems Discounted petrol at hyper-markets Extension of opening hours (24 hour shopping in many stores) Innovative use of technology for shoppers including self-scanning machines Financial incentives to shop at off-peak times Internet shopping for customers

PRICE LEADERSHIP IN OLIGOPOLISTIC MARKETS When one firm has a dominant position in the market the oligopoly may experience price leadership. The firms with lower market shares may simply follow the pricing changes prompted by the dominant firms. We see examples of this with the major mortgage lenders and petrol retailers.

Oligopoly

An oligopoly the domination of a market by a few firms. A duopoly is a simple form of oligopoly in which only two firms dominate a market. Where an oligopoly exists, a few large suppliers dominate the market resulting in a high degree of market concentration; a large percentage of the market is taken by the few leading firms. An oligopoly usual depends on high barriers to entry. It often leads to a lack of price competition (although there may be fierce competition in terms of marketing etc) which is the problem from the point of view of consumers. Because an oligopoly consists of a few firms, they are usually very much aware of each others' actions (e.g. changes to prices). This can lead to informal collusion as firms match prices to avoid provoking a price war. This has a similar effect to deliberate collusion, but is harder for regulators to control. This also means that when price cuts do occur, the market tends to have to follow the lead of any one firm. This leads to each firm experiencing a peculiar demand curve, the so-called kinked demand curve. An oligopolist faces a downward sloping demand curve but its price elasticity may depend on the reaction of rivals to changes in price and output. Assuming that firms are attempting to maintain a high level of profits and their market shares. Competitors will not follow a price increase by one firm, so a firm that raises prices will lose market share and therefore profits. Competitors have to match a price cut by one firm to avoid a loss of market share. That means that if one firm cuts prices, all will have lower profits. This means that the demand curve for the oligopolist is not straight. It is flatter above the current price, with a sudden change of slope at the current price. This means that an oligopolist usually has little incentive to change its prices. It may cut prices where there are prospects of market share gains (i.e. when its rivals will not follow). It may increase prices if it feels sure that competitors will follow (or when the margin increase is sufficient to make up for the large loss in market share). Prices in an oligopoly therefore tend to be higher and change less than under perfect competition.

Examples of oligopolies may include the markets for petrol in the UK (BP, Shell and a few other firms) and soft drinks (such as Coke, Pepsi, and Cadbury-Schweppes). The word oligopoly is derived from the Greek oligos, which means few.

pure competition
A market characterized by a large number of independent sellers of standardized products, free flow of information, and free entry and exit. Each seller is a "price taker" rather than a "price maker".

Four Market Models

From most competitive to least competitive: Pure Competition: Involves very large numbers of firms producing identical products. Standardized product (a product identical to that of other producers--ex. corn or cucumbers). no attempt to advertise or differentiate Free Entry and Exit: no significant legal, technological, financial, or other obstacles prohibiting new firms from selling their output in any competitive market No control over the price: "Price Takers" (i.e. the firms have no market power) . The individual firm has very little to no impact on the market. Demand is perfectly elastic. Maximizes productive and allocative efficiency. ex. Agriculture pure competition markets do not actually exist. Note: Pure competition does not actually exist in our society, and the agriculture industry is the closest industry to being purely competitive. The pure competition model is used as a standard to evaluate the efficiency of our economy (something to compare to and help our understanding of economy.) Monopolistic Competition:

 Involves large number of firms, but not as many as in pure competition. Produces differentiated products (ie. clothing, furniture, books) Nonprice competition - a selling strategy in which firms try to distinguish their product or service on the basis of attributes such as design and workmanship (product differentiation) Focuses mostly on advertising, brand names, and trademarks Firms can easily enter or leave this market, although not as easily as firms in a purely competitive market. Imperfect Competition. Limited control over prices ex. retail trade, dresses, shoes Oligopoly:

Involves a few firms that exert considerable influence over the industry Produces either standardized or differentiated products. NONPRICE COMPETITION: emphasis on product differentiation Existing firms are strong rivals and affects each other's price and output. Control over price limited by mutual interdependence; considerable with collusion (the decision of rivals). Harder for a firm to enter or exit. Imperfect competition. A great deal of nonprice competition, especially with differentiated products ex. steel, automobiles, household appliances Pure Monopoly: Only one firm is involved. Products are unique with no substitutes. NONPRICE COMPETITION: mostly public relations Entry of additional firms is not possible--one firm constitutes the entire industry. Entry to the industry is often blocked by government. It requires patent or licenses. Since the monopolist produces a unique product, it makes no effort to differentiate its product. Imperfect Competition. There is total control over price "Price Makers" ex. local electric utility Oil, John D. Rockefeller diamonds

Pure Competition: Characteristics and Occurrence

Very large numbers

There is a large number of of independently acting sellers, each offering their products in large national or international markets ex. farm commodities, the stock market, the foreign exchange market

Standardized product The product is standardized because it is either identical to each other, or homogeneous As long as the price is the same, consumers will be indifferent about which seller to buy the product from The producer would not lower the price, since it will not earn anything by shrinking its profit. Buyers view the products of firms B, C, D, and E as perfect substitutes for the product of firm A Thus, each firm is a price taker since consumers will simply buy from another firm if one firm raises their prices. Because the firms sell standardized products, they make no attempt to differentiate their products and do not engage in other forms of nonprice competition Any changes made to a product would result in a unified change throughout all firms because one major characteristic of pure competition industries is that there is perfect knowledge of the product. "Price takers" Individual firms exert no significant control over product price Each firm produces such a small fraction of total output that increasing or decreasing its output will not perceptibly influence total supply or product price The individual competitive producer is at the mercy of the market; asking a price higher than the market price would be futile Because the market is filled with an infinite number of firms all selling the same product, any single firm represents a minuscule portion of the whole market causing: No single firm can change market price by adjusting output as it makes up a small percentage of the entire market supply Competitive firm is a price taker, because it cannot change market price; it can only adjust to it There is no profit to be made because the price each business operates at is only enough to cover a unified normal profit, therefore going below the price would result in an economic loss. Free entry and exit There are no legal, technological, financial, or other obstacles that prevent firms from entering or leaving a competitive market. It is easy for firms to enter or exit the industry (especially if it has small economies of scale).

This is only possible in a purely competitive market because firms in this type of market are "price takers," and the number of firms does not affect the price of a product. This characteristic is key in determining that in the long-run, firms have no economic profit, as the price would eventually equal minimal ATC (average total cost) Pure competition is rare in the real world, but the model is important because it provides a standardized against which to compare and evaluate the efficiency of the real world. A realistic example, closest to pure competition, would be the agriculture industry.

Demand as Seen by a Purely Competitive Seller

Perfectly Elastic Demand: Single Firm= small fraction of total output. Hence they are price-takers as they cannot influence market price MANY firms TOGETHER can affect market price by changing industry output Graphically - perfectly elastic demand for single firm - horizontal line. ONLY ONE MARKET PRICE - market demand for entire industry - downsloping curve. Firms can choose to produce at different market prices - If price changes at all it drastically affects quantity purchased i.e. price > equilibrium price causes quantity to go to zero and vice versa A perfectly elastic demand means that the firm can produce as much as they want at that price and it will still be sold. Purchasers will be willing to buy any quantity at that price. Average, Total, and Marginal Revenue:

Average Revenue (AR) schedule = demand schedule Price per unit to buyer = revenue per unit to seller average revenue=price Total Revenue (TR)= Price x Quantity (increases by constant amount constant price) TR = P x Q Straight upward sloping line constant slope (= price) The area formed by the rectangle with coordinates (0,0), (0,P), (0,Q), (P,Q) Marginal Revenue (MR) = Change in Total Revenue from selling ONE additional unit of output. Same as price.

MR = TR from selling 1 more unit of output = price The reason MR=D=AR=P is because in a purely competitive firm the price carries over from the industry and thus that equals the demand. At this demand each additional output increases by he same degree and the average revenue at any point is the same price.

Even with changes in the marketplace, the line may move vertically but the values will always be equal Price line is the same as the average revenue or marginal revenue since the price is fixed Graphs MR = AR = Demand = Price (represented by the horizontal line) This is because firms in a Purely Competitive Market are price-takers in that they MUST go with the industry equilibrium price (which is the intersection of S and D curve)
MONOPOLY A market structure in which one firm sells a unique product into which entry is blocked in which the single firm has considerable control over product price and in whichnonprice competition may or may not be found. Examples / Importance 1. Public utilities: gas, electric, water, cable TV, and local telephone service companies, are often pure monopolies. 2. First Data Resources (Western Union), Wham-O (Frisbees), and the DeBeers diamond syndicate are examples of "near" monopolies. (See Last Word.) 3. Manufacturing monopolies are virtually nonexistent in nationwide U.S. manufacturing industries. 4. Professional sports leagues grant team monopolies to cities. 5. Monopolies may be geographic. A small town may have only one airline, bank, etc. OLIGOPOLY A market structure in which a few firms sell either a standardized or differentiated product into which entry is difficult in which the firm has limited control over product price because of mutual interdependence (except when there is collusion among firms) and in which there is typically nonprice competition. Examples include many industrial products such as steel and large consumer durables such as appliances, the top cigarettes and beer companies. Monopolistic Competition A market structure in which many firms sell a differentiated product into which entry is relatively easy in which the firm has some control over its product price and in which there is considerable nonprice competition. Examples are grocery stores and gas stations Pure Competition. A market structure in which a very large number of firms sell a standardized product into which entry is very easy in which the individual seller has no control over the product price and in which there is no nonprice competition; a market characterized by a very large number of buyers and sellers. Examples : Agricultural products such as potatoes and wheat

Also sometimes referred to as perfect competition, pure competition is a situation in which the market for a product is populated with so many consumers and producers that no one entity has the ability to influence the price of the product sufficiently to cause a fluctuation. Within this type of market setting, sellers are considered to be price takers, indicating that they are not in a position to set the price for their products outside a certain range, given the fact that so many other producers are active within the market. At the same time, consumers have little influence over the prices offered by the producers, since there is no singular group of consumers that dominates the demand.

In reality, pure competition is more theory than actual fact. While there are rare situations in which a marketplace functions with pure competition for a short period of time, the situation normally shifts as various factors change the stalemate created by a multiplicity of sellers and buyers. This is often due to the somewhat stringent set of factors that must be present in order for the competition to be considered perfect or pure. Ads by Google

Competition & Monopoly

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There are several essential characteristics that define pure competition. One has to do with the balance of buyers to sellers. When there is an infinite number of buyers who are willing to purchase the products offered for sale by an infinite number of producers, at a certain price, the opportunity for anyone to take actions that shift the market price is extremely limited. The price remains more or less the same, and the same number of buyers purchase the products from the same range of producers. With pure competition, sellers can easily exit or enter the marketplace, without creating any undue influence on the price. Consumers continue to make purchases at the same rate, even if two companies leave the market and only one new one enters. The collective producers who are still in the market simply continue to produce enough products to meet consumer demand, without a shift in market price. Businesses engaged in a pure competition market usually structure production so that they incur marginal costs at a level where they can earn the most profit. When the product line is homogeneous, this means the products produced are essentially the same as the product line produced by other suppliers in the marketplace. Assuming the costs are in line with marginal revenue, the business can generate a consistent profit for as long as the condition of purecompetition is present in the market.

Monopolistic Competition Monopolistic Competition is a market structure in which many firms sell products that are similar but not identical. Characteristics of Monopolistic Competition:

1. Many Sellers =) Firms compete. 2. Product Differentiation =) each firm faces downward sloping demand curve. 3. Free Entry =) Economic profits are zero. Examples of monopolistic competition: Books, CDs, movies, computer software, restaurants, furniture, and so on.

Monopolistic Competition
Monopolistic competition has characteristics of both competition and monopoly. Similar to competition, it has many firms, and free exit and entry. Similar to monopoly, the products are differentiated and each company faces a downward sloping demand curve. Since the company has a differentiated product, it is like a monopolist and faces a negatively-sloped demand curve. In the short-run, marginal revenue is always less than demand profit is maximized where MR = MC profit = (price - average total cost) x quantity

The short-run equilibrium in monopolitic competition is the same as for a monopolist, and businesses may make positive, zero, or negative profits in the short run. Long Run Equilibrium In the long run, entry and exit are both possible. If profit is greater than zero, businesses will enter, and each company's market share will fall because of more variety. As a result, each companys demand curve will decrease, along with price and quantity. If profit is less than zero, businesses will exit, and each companys market share will increase. This will cause the remaining companies' demand curves to increase, along with the price and quantity. If profit is equal to zero, there will be no entry into or exit from the industry. In the long run, all the companies' economic profits must be zero. Monopolistic Competition and Welfare Let's compare a company in monopolistic competition with a company in perfect competition, where both are in a long-run equilibrium. In both cases, profit equals zero. The two main differences between the two are: 1. Excess Capacity 2. companies in perfect competition produce where ATC is at a minimum (efficient scale) companies in monopolistic competition produce where quantity of output is smaller, and on a downward sloping part of ATC (excess capacity) could increase capacity and lower average costs for a competitive firm, price = marginal cost for a monopolistic competition firm, price > marginal cost

Make-up Over Marginal Cost

there is a mark-up above MC even though the firm makes zero profits

Efficient Outcomes and Externalities When price is greater than marginal cost, the value that consumers place on the last unit is greater than the cost, so the good is under-produced. This leads to a deadweight loss like a monopolist. The number of businesses in the industry may be inefficient, and each time a new business enters, it creates externalities such as, Product Variety Externality - consumers get a wider choice of products, and an increase in consumer surplus which is a positive externality Business-Stealing Externality - this is a negative externality whereby other businesses lose customers

Since companies do not take these into account, there are no guarantees that there is an optimum number of them in the industry. This means that there may be too few or too many products available on the market. Product Differentiation through Advertising Companies that wish to differentiate products often use advertising. Advertising is common with differentiated consumer products, and much less common with homogeneous goods. Forms of advertising include television, radio, direct mail, billboards, etc. Advertising has a wide range of costs and benefits. One cost of advertising, is that it may be mostly aimed at manipulating tastes of consumers without conveying any useful information. Advertising may also try to create differentiation within products that are actually very similar. Also, advertising tries to make demand curves less elastic, and impedes competition. This then leads to a high markup over marginal cost. Some benefits to advertising, is that it does convey some useful information such as prices, new products, locations, etc. Advertising may also foster competition by giving more information on pricing and availability. Advertising may also be a signal of quality, because willingness to spend money to advertise products may be a sign that the company has confidence in its quality. This makes it rational for consumers to try such products even if content of ads is minimal.

Monopolistic competition
The model of monopolistic competition describes a common market structure in which firms have many competitors, but each one sells a slightly different product. Monopolistic competition as a market structure was first identified in the 1930s by American economist Edward Chamberlin, and English economist Joan Robinson.
Many small businesses operate under conditions of monopolistic competition, including independently owned and operated high-street stores and restaurants. In the case of restaurants, each one offers something different and possesses an element of uniqueness, but all are essentially competing for the same customers.

Characteristics
Monopolistically competitive markets exhibit the following characteristics:

1.

Each firm makes independent decisions about price and output, based on its product, its market, and its costs of production.

2. Knowledge is widely spread between participants, but it is unlikely to be perfect. For example, diners can review all the menus available from restaurants in a town, before they make their choice. Once inside the restaurant, they can view the menu again, before ordering. However, they cannot fully appreciate the restaurant or the meal until after they have dined.

3. 4.
5.

The entrepreneur has a more significant role than in firms that are perfectly competitive because of the increased risks associated with decision making. There is freedom to enter or leave the market, as there are no major barriers to entry or exit. A central feature of monopolistic competition is that products are differentiated. There are four main types of differentiation:

1. 2. 3.

Physical product differentiation, where firms use size, design, colour, shape, performance, and features to make their products different. For example, consumer electronics can easily be physically differentiated. Marketing differentiation, where firms try to differentiate their product by distinctive packaging and other promotional techniques. For example, breakfast cereals can easily be differentiated through packaging. Human capital differentiation, where the firm creates differences through the skill of its employees, the level of training received, distinctive uniforms, and so on. 4. Differentiation through distribution, including distribution via mail order or through internet shopping, such as Amazon.com, which differentiates itself from traditional bookstores by selling online.

6.

Firms are price makers and are faced with a downward sloping demand curve. Because each firm makes a unique product, it can charge a higher or lower price than its rivals. The firm can set its own price and does not have to take' it from the industry as a whole, though the industry price may be a guideline, or becomes a constraint. This also means that the demand curve will slope downwards. 7. Firms operating under monopolistic competition usually have to engage in advertising. Firms are often in fierce competition with other (local) firms offering a similar product or service, and may need to advertise on a local basis, to let customers know their differences. Common methods of advertising for these firms are through local press and radio, local cinema, posters, leaflets and special promotions.

9.

Monopolistically competitive firms are assumed to be profit maximisers because firms tend to be small with entrepreneurs actively involved in managing the business. 10. There are usually a large numbers of independent firms competing in the market.

Video Equilibrium under monopolistic competition

In the short run supernormal profits are possible, but in the long run new firms are attracted into the industry, because of low barriers to entry, good knowledge and an opportunity to differentiate. Monopolistic competition in the short run
At profit maximisation, MC = MR, and output is Q and price P. Given that price (AR) is above ATC at Q, supernormal profits are possible (area PABC).

As new firms enter the market, demand for the existing firms products becomes more elastic and the demand curve shifts to the left, driving down price. Eventually, all super-normal profits are eroded away. Monopolistic competition in the long run
Super-normal profits attract in new entrants, which shifts the demand curve for existing firm to the left. New entrants continue until only normal profit is available. At this point, firms have reached their long run equilibrium.

Clearly, the firm benefits most when it is in its short run and will try to stay in the short run by innovating, and further product differentiation.

Examples of monopolistic competition

Examples of monopolistic competition can be found in every high street. Monopolistically competitive firms are most common in industries where differentiation is possible, such as: The restaurant business Hotels and pubs General specialist retailing Consumer services, such as hairdressing

The survival of small firms

The existence of monopolistic competition partly explains the survival of small firms in modern economies. The majority of small firms in the real world operate in markets that could be said to be monopolistically competitive.

Evaluation
The advantages of monopolistic competition
Monopolistic competition can bring the following advantages:

1. 2. 3.

There are no significant barriers to entry; therefore markets are relatively contestable. Differentiation creates diversity, choice and utility. For example, a typical high street in any town will have a number of different restaurants from which

to choose.

The market is more efficient than monopoly but less efficient than perfect competition - less allocatively and less productively efficient. However, they may be dynamically efficient, innovative in terms of new production processes or new products. For example, retailers often constantly have to develop new ways to attract and retain local custom.

The disadvantages of monopolistic competition There are several potential disadvantages associated with monopolistic competition, including:
1. Some differentiation does not create utility but generates unnecessary waste, such as excess packaging. Advertising may also be considered wasteful, though most is informative rather than persuasive. 2. As the diagram illustrates, assuming profit maximisation, there is allocative inefficiency in both the long and short run. This is because price is

above marginal cost in both cases. In the long run the firm is less allocatively inefficient, but it is still inefficient.

3.

There is a tendency for excess capacity because firms can never fully exploit their fixed factors because mass production is difficult. This means they are productively inefficient in both the long and short run. However, this is may be outweighed by the advantages of diversity and choice. As an economic model of competition, monopolistic competition is more realistic than perfect competition - many familiar and commonplace markets have many of the characteristics of this model.