3.4 - Market Structures

Question 1

What are the 4 types of efficiency?

Answer 1

• Allocative efficiency (MC=AR)
• Productive efficiency (MC=AC)
• X-efficiency/inefficiency
• Dynamic efficiency

Question 2

What is the difference between allocative and productive efficiency? What type of efficiency are they?

Answer 2

• Static efficiency - efficiency at one point in time
• Productive efficiency: producing G&S with the optimal combination of inputs to produce maximum output for minimum cost-> when AC is at its lowest - firm produces where MC=AC
• Allocative efficiency: when resources are used to produce G&S which consumers want/value highly -> welfare is maximised - produce where MC=AR

Question 3

What is the difference between x-inefficiency and dynamic efficiency?

Answer 3

• X-inefficiency: when for a given level of output, costs are above the AC curve
• Dynamic efficiency: how changing technology improves a firm’s output potential over time e.g. phones - firms must invest in R&D -> can only be done if making SNP

Question 4

What are the characteristics of perfect competition?

Answer 4

1. Many buyers and sellers - no one firm/customer is able to influence the market + no monopolies
2. No barriers to entry/exit - no economies of scale, no sunk costs, no patents, etc - firms make normal profits in the LR
3. Perfect knowledge - enables firms to know when other firms are making profits - attracts them to the market
   4 Homogenous goods - identical
4. Firms are price-takers

Question 5

Which 2 characterstics lead to normal profits

Answer 5

• No barriers to entry/exit
• Perfect knowledge
• New firms enter the market -> supply increases -> price pushes down -> normal profits

Question 6

Describe the efficiency of firms in a perfect competitive market in the short-run and long-run

Answer 6

• In SR and LR perfect competition, firms are allocative efficient
• In SR perfect competition -> not productive efficient
• In LR perfect competition -> productive efficient - producing enough to take advantage of economies
• Perfect competitive firms are always X-efficient -> firms are price takers - cost minimisation is the only way to make money
• Dynamic efficiency: in SR - fixed capital, homogenous products, perfect knowledge -> no incentive due to copying (eval: time lag); in LR - normal profits -> nothing to reinvest in R&D