Market structure

Question 1

Assumptions of perfect competition

Answer 1

1. many buyers and sellers
2. perfect knowledge
3. no barriers to entry/exit
4. firms are profit maximisers
5. firms are price takers
6. homogenous products

Question 2

What is the link between MC curve of the firm to its supply curve in the industry?

Answer 2

• in perfect competition, shut down rule in SR, P>AVC, continue, P=MC, parts where MC>AVC is the supply curve
• in LR, only normal profit can be made, D=AR=MR intersects the lowest point of ATC, parts where MC>ATC is the supply curve

In imperfect competition
- relationship not clear
WHY
- firms do not produce at P=MC
- all types of profit made in LR
- firms sell different products, supply curves may vary

Question 3

Advantages of perfect competition

Answer 3

1. achieve both AE and PE in LR, all resources are used as efficient as possible, no waste of resources
2. this environment can be used as standard for assessing the extent of efficiency/inefficiency in other market structure, govt can form regulations
3. fierce competition due to homogenous products, forces firms to be efficient all the time, lower costs, lower price
4. no need to advertise

Question 4

Disadvantages for perfect competition

Answer 4

1. the environment is based on unrealistic assumptions which does not exist in real world, e.g. perfect knowledge
2. small firms cannot grow large enough to benefit from EoS
3. homogenous products means that consumers do not enjoy product variety
4. no abnormal profit, no incentive for innovation
5. market may still produce negative externalities

Question 5

Assumptions for monopoly

Answer 5

1. one large firm with complete market
2. high barriers to entry/exit
3. firm is a price maker
4. profit maximiser, MC=MR

Question 6

What are the sources of monopoly power?

Answer 6

1. barriers to entry
   - legislation
   - cost advantage
   - control over supplies + outlet
2. product differentiation
   - very unique, fewer competitors, stronger power
3. growth of firms
   - internal expansions + external mergers, market share increases

Question 7

Compare monopoly to perfect competition (P, Q)

Answer 7

• higher price, quantity reduced in monopoly
• making SR and LR profit
• not allocative efficient in monopoly
• dwl

Question 8

Monopoly diagram

Answer 8

• distance between ATC and AR is abnormal/subnormal profit

Question 9

Advantages of being a monopoly

Answer 9

1. abnormal profits in LR, strong position to reinvest to achieve dynamic efficiency, lower MC and AC, lower price, may be lower than firms in perfect competition, technology allows more quantity
2. employ large no. of workers, contribute to significant part of total tax revenue, reduces unemployment, reduces transfer payment paid and improves living standard
3. monopoly power may be due to greater efficiency, they compete through creative destruction (apple vs nokia)

Question 10

Disadvantages of being a monopoly, EV

Answer 10

1. loss of consumer sovereignty
2. may not be X efficient (lowest AC possible, may be higher than they would be in PC cuz less incentive for innovation)— poor management, over expansion
3. dwl, under-allocation , positive production externality
   EV
   - extent of power depends on the distance between P and MC, larger = greater power