Forms of Market Flashcards
What is market?
It is a mechanism by which buyers and sellers come together for sale. E.g. - Purchas e of goods and services
What are the different forms of market?
- Perfect Competition
- Monopolistic Competition
- Monopoly
- Oligopoly
What are normal profits?
Minimum profits earned by a firm which is necessary to continue the business.
What are the features and implications of perfect competition?
1. Large Number of Buyers and Sellers - number of buyers/sellers so large that no individual buyer/seller can influence market price of a commodity by changing his/her demand/supply. Implication - single uniform price throughout market
2. Homogenous Product - product with all firms homogenous, i.e. identical in nature. Similar in terms of colour, shape, size, weight, design etc. Product being homogenous, no individual can charge higher price. Products are perfect subsitutes of one another. Implication - single uniform price through the market. No firm may charge higher price for similar product.
3. Free Entry and Exit of Firms - Forms free to enter industry or leave market. No legal restrictions regarding entry/exit. Mnay new firms enter market when supernormal profits, and many leave when losses incurred. Implication - all firms earn ‘normal profits’ (definition). No firm earns supernormal profits in long run. In short run, if firms earn supernormal profits new firms join, if lossess incurred firms leave market. Therefore, in long run all firms earn zero abnormal profit
4. Perfect Knowledge - Buyers/sellers have full knowledge about prices and costs prevailing in market. Firms have equal access to tech and inputs, hence same per unit cost of production. Implication - single uniform price
5. Perfect Mobility - perfect mobility of goods and factors of production; factors free to enter industry that pays higher and leave market when renumearation inadequate.
6. AR and MR Curves - Curves perfectly elastic. Price (AR) fixed by industry depunding upon forces of demand and supply. Price is given to all firms as homogenous product. Additional marginal revenue (MR) equals price (AR). AR = MR.
Y Axis - Units Sold
Why under perfect competition AR=MR? Why is the demand curve under perfect competition perfectly elastic?
1. Demand Curve is perfectly elastic, i.e. price remains constant throughout market as fixed by market forces of demand and supply.
2. Price fixed where market demand = market supply of product
3. Homogenous Product - Since all firms sell homogenous products, price tends to remain constnat throught the market. Implies amount of revenue recieved with sale of additional unit (MR) = price of product (AR)
4. Large Number of Buyers and Sellers - Number of firms so large, no individual firm can influence market price of commodity by changing their demand or supply.
Why is a firm called price taker under perfect competition and industry as price maker?
Firms called price taker and industry price maker because prices are fixed by industry on basis of market forces of demand and supply. All firms sell their commodity at the industry’s fixed price because:-
- Large Number of Buyers and Sellers - Number of firms so large, no individual firm can influence market price of ccommodity by changing their demand or supply.
- Homogenous Product - Good with all firms is identical, i.e. commodity similar in terms of colour, shape, size, weight etc. (perfect subsitutes) Therefore, there prevails a single uniform price throughout the market.
What is monopolistic competition?
Under monopolistic competition, there is a large number of sellers and buyers. The sellers sell different products (heterogenous) and there is free entry and exit of firms.
What are the features of monopolistic competition?
1. Large number of buyers and sellers - Large number of buyers and sellers selling the commodity, but size of each firm is relatively smaller as compared to size of firms under PC. Implication - no individual firm can influence the market price of the commodity
2. Product Differentiation (Heterogeneous) - Most important feature under mc. Means that buyers if same product differentiate between same products produced by different firms. Products closely related but not identical. Products different in terms of brand name, colour, shape, quality etc. Under MC, firm becomes known for its product and can influence price of its own product to some extent. Implication - Implication of all firms selling hetero is ‘Selling Cost’. Firms incur huge amount of expenditure on selling cost such as ads, publicity and other sales promotional activities in order to increase sales of their differentiated products.
3. Free Entry and Exit of Firms - New firms may enter market if profits prevail wheras firms may leave when lossess incurred. No legal restrictions or other barriers regarding entry or exit of firms. Implication - all firms earn ‘normal profits’ (definition). No firm earns supernormal profits in long run. In short run, if firms earn supernormal profits new firms join, if lossess incurred firms leave market. Therefore, in long run all firms earn zero abnormal profit, or normal profits.
4. Selling Cost - Selling cost are expenses incured for promoting sales on induving customers to buy the goods of a particular brand. Includes cost of advertisement through newspaper, TV, free samples etc. Object of selling cost is to increase sales of product.
5. Non-Price Competition - Firms compete without influencing price. Firm may give competition not by lowering price, but by offering free ggifts, coupons etc. to increase sales of differentiated product.
6. AR and MR Curves - AR and MR curves are downward sloping which imples that in order to increase sales of commodity, firms lower down price of commodity.
What is a monopoly?
Mono means single, poly means seller, i.e. monopoly means single seller. Monopoly is a market situation where there is a single firm selling the commodity and there is no close subsitute of the commodity sold by the monopolsit. Eg. Indian Railway, BSES (New Delhi)
What are the features of a monopoly?
1. Single Seller of Commodity - There is only one seller/producer of commodity in market. May be due to copyrights, patents or state monopoly. etc. As result, monopoly firm has full control over supply oof commodity. Monopoly may be individual, a firm, a group of firms, or government. Thus, a monopooly itself is price maker.
2. Price Discrimination - Price discrimination takes place, i.e.e a monpooly firm may charge different prices from different consumer depending on their elasticity of demand (eg. Tatkal Ticket) A monopolist charges higher price from a consumer having inelastic demand and relatively lower price from consumer having highly elastic demand.
3. Restrictions on Entry of New Firms - Monopoly firm places restrictions for new firms to enter the market and increase competition. Restrictions imposed could be in form of having patent rights, or exclusive control over production tech etc. May also restrict by taking patents, copyright, economic or institutional barriers.
4. No Close Subsitutes
5. Full Control Over Price
6. AR and MR Curves - AR and MR curves are downward sloping which imples that in order to increase sales of commodity, firms lower down price of commodity.
What is a cartel?
It refers to an organisation where different firms combine together their output and pricing strategies to act as if they are a monopoly.
What is an oligopoly?
Form of market in which a few big firms produce most of total output of the industry and are mutually depended for taking decision about price & output. Eg. - automobile industry, cement and steel industry
What are the features of an oligopoly?
1. Few Big Firms - Few big firms controlling market where each firm produces a substantial part of total output of the industry, Number of firms so small that each seller knows that they can influence price of commodity.
2. Interdependence - There is interdependence of firms for taking decision about price & output. Since few firms, change in price and output by one firms seeks retaliation from rival firms in terms of price/output. Therefore, firms mutually dependnet on each other. Eg. If Honda modifies City variant, Hyundai may also modify its Verna variant.
3. Barriers to Entry - Not easy for new firms to enter as various barriers imposed by existing firms by way of ownserhip/ exclusive control over production technique, patents and licensing. Often huge capital requirement and investment cost also barriers.
4. Non-Price Competition - Since few firms, non-price war may folllow. Firms compete not by lowering price of good but by ways such as advertisement, free gifts.
5. Indeterminate DD Curve - No fixed shape of demand curve becausae of high degree of interdependence among firms. Asa result, demand curve of oligopoly keeps on changing and is indeterminate in nature.
What is a collusive oligopoly?
If firms cooperate with each other i.e. firms under oligopoly do not compete each other in setting price and output, it is called collusive.
What is a non-collusive oligopoly?
If oligopoly firms compete with each other in terms of price and output, it is called non-collusive oligopoly. Alsoknown as Non-Cooperative Oligopoly.
Explain the relationship between AR and MR curves
1. Perfect Competition - Under perfect competition, AR = MR. This is because there are large number of buyers and sellers, and hence no individual firm can influence the price of the commodity. Further, firms sell homogenous product that is identical in terms of shape, size, colour etc., hence, no firm can charge higher price for similar product. (perfect subsitutes) Therefore, single uniform price prevails throughout the market. Hence, marginal revenue recieved with each successive sale of unit (MR) is the same as price (AR). Hence, AR = MR.
2. Monopolistic Competition - Under monopolistic competition, AR and MR curves are downward sloping and rate of fall of MR is more than the rate of fall of AR. This implies that in order to increase sales of the commodity, firms must lower down the price of commodity.
3. Monopoly - Under monopoly, AR and MR curves are downward sloping and rate of fall of MR is more than the rate of fall of AR. This implies that in order to increase sales of the commodity, firms must lower down the price of commodity. The AR and MR curves under monopoly will be less elastic or more steep as there is greater price variation. (just for understanding: since elasticity is #Q/#P and if #P becomes greater, elastcity becomes lesser, and hence the slope becomes steeper)
