Imperfect

competition and
output decision

Presented by :
Ananya
sengupta
Deepak nanda
Kush rai
Imperfect Market
Imperfect competition is a market
situation where individual firms have a
measure of control over the price of the
commodity in an industry.
a firm that can affect the market price
of its output can be classified as an
imperfect competitor.
Normally, imperfect competition arises
when an industry's output is supplied
only by one, or a relatively small
number of firms.
Imperfect Market
An imperfect market is a situation where individual
firms have some measure of control or discretion
over the price of the commodity in an industry
 This imperfect competition does not necessarily
mean that a firm can arbitrarily put any price on
its commodity
 an imperfect competitor does not have absolute
power over price

Aside from discretion over price, imperfect

competitors may or may not have product
differentiation/variation

Demand curve faced by firm
The firm under an imperfect market faces
the market demand curve or part of it.
In either case, the firm faces a downward
sloping demand curve
This implies that if the firm wants to sell more,
it should lower the price; if it wishes a higher
price, he should restrict output.
In contrast, a perfectly competitive firm, since
it has no control over price, faces a
horizontal demand curve.
Sources of market imperfection
Imperfect competition often arises when an
industry’s output is supplied by one or a
small number of firms.
This may be traced to the existence of
barriers to entry and the existence of
significant differences or advantages in
cost conditions.
Sources of market
imperfection
Imperfect competition often arises when an
industry’s output is supplied by one or a
small number of firms.
This may be traced to the existence of
barriers to entry and the existence of
significant differences or advantages in
cost conditions.
Barriers to Entry
Barriers to entry – natural or artificial
constraints that prevent other firms
from entering the industry
legal restrictions like patents and
exclusive franchises;
existence of advantages in cost
conditions – demand for commodity
may be too small, firm’s production
function may exhibit increasing
returns to scale (LAC curve shows
economies of scale over all profitable
output levels).
 P

MC
Price

k
AC

D
Q
0
Quantity

FIGURE 7 . 2 . Marginal cost and average cost curves of a firm

in a natural monopoly relative to market demand . A natural
monopoly arises when increasing returns to scale (decreasing average
cost) makes most efficient plant size (at point k) large relative to
market demand. In this case, the market can only support one firm in
the industry. In the region of increasing returns, the marginal cost
lies below the average cost.
Imperfect Markets
Monopoly – market situation where a single seller exists
and has complete control over an industry
 e.g., Meralco is sole distributor of electric power in
Metro Manila

Oligopoly – market structure with few sellers;

 e.g., cement and automobile industries,
 firms operating in an oligopolistic market situation
may either collude or act independently

Monopolistic competition – occurs when there are many

sellers producing differentiated products
 firms have slight control over the price of the
commodity and they advertise
Monopolistic
competition
Monopolistic competition is a market
structure in which there are many firms
selling differentiated products.

•T h e re a re fe w b a rrie rs to e n try.
Monopolistic
Competition
 Four distinguishing characteristics:
1.Many sellers that do not take into account rivals’
reactions
2.Product differentiation where the goods that are sold
aren’t homogenous
3.*Multiple dimensions of competition make it harder
to analyze a specific industry, but these methods of
competition follow the same two decision rules as
price competition
4.Ease of entry of new firms in the long run because
there are no significant barriers to entry

16 - 11
Output, Price, and Profit of
a Monopolistic Competitor
A monopolistically competitive firm prices in
the same manner as a monopolist—where
MC = MR.
But the monopolistic competitor is not only a
monopolist but a competitor as well.
Output, Price, and Profit of
a Monopolistic Competitor
At equilibrium, ATC equals price and economic
profits are zero.

•This occurs at the point of tangency

of the ATC and demand curve at the
output chosen by the firm.
Price
Monopolistic
Competition
MC

ATC
PM

MR D
0 QM Quantity
A Monopolistically
Competitive Firm: Above Normal
Profit
A Monopolistically
Competitive Firm: Economic Loss
A Monopolistically
Competitive Firm: Normal Profit
Entry and Normal Profit
Oligopoly
Competition between the few
May be a large number of firms in the industry
but the industry is dominated
by a small number of very large producers
Concentration Ratio – the proportion of
total market sales (share) held by the top
3,4,5, etc firms:
A 4 firm concentration ratio of 75% means the
top 4 firms account for 75% of all
the sales in the industry

Oligopoly
Example: The music industry has
a 5-firm concentration
Music sales – ratio of 75%.
Independents make up
25% of the market but
there could be many
thousands of firms that
make up this
‘independents’ group.
An oligopolistic market
structure therefore
may have many firms
in the industry but it is
dominated by a few
large sellers.
Market Share of the Music Industry 2002. Source IFPI: http://www.ifpi.org/site-content/press/20030909.html
 Oligopoly
Features of an oligopolistic market
structure:
Price may be relatively stable
across the industry –
kinked demand curve?
Potential for collusion
Behaviour of firms affected by
what they believe their rivals
might do – interdependence of
firms
Goods could be homogenous or
highly differentiated

Branding and brand loyalty may
be a potent source of
competitive advantage
Non-price competition may be
prevalent
Game theory can be used to
explain some behaviour
AC curve may be saucer shaped
– minimum efficient scale
could occur over large range of
output
 O lig o p o ly
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100 Quantity
Duopoly
Market structure where the industry
is dominated by two large
producers
Collusion may be a possible
feature
Price leadership by the larger of
the two firms may exist – the
smaller firm follows the price
lead
of the larger one
Highly interdependent
 High barriers to entry
Cournot Model – French
economist – analysed duopoly
– suggested long run
equilibrium would see equal
market share and normal
profit made
In reality, local duopolies may
exist
