Market & Industry Flashcards
What is the difference between a Market and an Industry?
- A Market is made up of a group of products considered by buyers to be close substitutes
- An Industry encompasses products which are close substitutes from the supplier’s viewpoint, that is in terms of inputs, employee skills and production processes
What are the main assumptions of perfect competition
- Each firm produces only a small percentage of total market output. It therefore exercises no control over the market price. For example it cannot restrict output in the hope of forcing up the existing market price. Market supply is the sum of the outputs of each of the firms in the industry
- No individual buyer has any control over the market price - there is no monopsony power. The market demand curve is the sum of each individual consumer’s demand curve – essentially buyers are in the background, exerting no influence at all on market price
- Buyers and sellers must regard the market price as beyond their control
- There is perfect freedom of entry and exit from the industry. Firms face no sunk costs that might impede movement in and out of the market. This important assumption ensures all firms make normal profits in the long run
- Firms in the market produce homogeneous, standardised products that are perfect replacements for each other. This leads to each firms being price takers and facing a perfectly elastic demand curve for their product
- Perfect knowledge – consumers have perfect information about prices and products.
- There are no externalities which lie outside the market
Perfect competition
- A large number of small firms and consumers
- No firm has any market power and no consumer can influence price
- All firms produce exactly the same product
- Firms are owned and managed by individual entrepreneurs
- Decision makers are unboundedly rational and perfectly informed
- Owners seek to maximise profits
- Consumers seek to maximise utility
Key features of an 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
Characteristics of monopolistic competition
- There are many producers and many consumers in a given market.
- Consumers perceive that there are non-price differences among the competitors’ products.
- There are few ‘barriers to entry and exit’.
- Producers have a degree of control over price
- e.g. Restaurants, cereals, clothing, shoes, services in large cities.
Supply curve
The Quantity of a product that producers are willing and able to make available to the market at a specific Price over a given period of time.
Demand curve
The Quantity of a product that consumers are willing and able to buy at a specific price over a given period of time.
Total Fixed Costs (TFC)
Costs that do not vary with output, Q
Total Variable Costs (TVC)
Costs that do vary with output, Q
Average Costs (AC)
The cost per unit of production.
AC = TC / Q
Marginal Costs (MC)
The extra cost of producing one more unit (per time period).
MC = ΔTC / ΔQ
Total Revenue (TR)
The total earnings per period of time from the sale of output Q.
TR = P x Q
Marginal Revenue (MR)
The extra TR gained by selling one more unit (per time period).
MR = ΔTR / ΔQ
What are the two types of economic efficiency?
Static and dynamic
What are the two types of static efficiency?
Productive and allocative
What are the two types of productive efficiency?
Factor-price and technical
Dynamic efficiency
Refers to the ability to adapt quickly and at low cost to changed and thereby maintain output and productivity performance despite economic ‘shocks’. Dynamic efficiency provides incentives for businesses to innovate and adapt.
Static efficiency
Static efficiency exists at a point in time and focuses on how much output can be produced now from a given stock of resources and whether producers are charging a price to consumers that fairly reflects the cost of the factors of production used to produce a good or a service. There are two main types of static efficiency.
Allocative efficiency
Allocative efficiency is achieved when the value consumers place on a good or service (reflected in the price they are willing to pay) equals the cost of the resources used up in production. Condition required is that price = marginal cost. When this condition is satisfied, total economic welfare is maximised.
Productive efficiency
Productive efficiency refers to a firm’s costs of production and can be applied both to the short and long run. It is achieved when the output is produced at minimum average total cost (AC). For example we might consider whether a business is producing close to the low point of its long run average total cost curve. When this happens the firm is exploiting most of the available economies of scale. Productive efficiency exists when producers minimise the wastage of resources in their production processes.
Factor-price efficiency
The price charged for the item efficiently represents the cost of producing it
Technical Efficiency
Producing as much as possible with a given level of inputs
Standardised product
- A firm’s product is essentially identical to that of it’s competitor’s. This means that Quantity demanded (Q) will vary greatly with Price (P)
- We refer to the product as being Price Elastic
Differentiated product
- A firm’s product is different from other’s, leading to Q being less dramatically influenced by P
- We refer to the product as being Price Inelastic
Elasticity
The responsiveness of one variable (e.g. demand) to a change in another (e.g. price)
Price Elasticity of Demand (PED)
- (% Change in Quantity Demanded) / (% Change in Price)
- less than 1 = inelastic
- greater than 1 = elastic
What factors influence PED?
- Number of close substitutes within the market
- Luxuries versus necessities
- Percentage of income spent on a good
- Habit-forming goods
- Time under consideration
Give an example of a monopolistically competitive market
Hairdressers - demand for all hairdressers is relatively inelastic if all the firms move the price together. However, if one firm raises its price it can expect to lose some business, but it could expect to retain loyal customers.
