market structures Flashcards
what is a market structure?
the environment in which firms operate
where does perfect competition occur?
in a market where there is a very high degree of competition and allocative and productive efficency are achieved in the long run.
what are the characteristics of perfect competition?
HALFPPPP
Homogenous products (all are perfect substitutes)
All firms have access to FOPs
Large number of buyers and sellers
Free entry and exit to the market (no barriers)
Perfectly elastic demand so D=MR=AR
Perfect knowledge of market conditions
Price taker
Profit max objective
here, a firm can expand or reduce output without influencing price. therefore, the price is determined by the market because the individual firm is too small to influence price.
why is marginal revenue the same as average revenue in perfect competition?
If a firm sells its output at the market price, then this price must be the average price or revenue. In addition, each extra item sold will receive the same price for each additional unit and therefore marginal revenue will be the same as average revenue.
draw a perfect competition diagram and explain it .
The firm operates in a competitive market.
The firm is a price taker as it is not large enough to influence market supply so cannot influence market price. The firm can sell all at once at this price. The firm makes just enough to stay in business in the long run and therefore makes normal profit, as the demand curve is perfectly elastic then the firms sell all units at P1, it does not have to price to sell more, therefore AR=MR.
We assume that firms are profit maximises and therefore choose output level when marginal cost is equal to marginal revenue. Here the firm is making normal profits because that the profit maximising level of output AC is equal to AR.
draw and explain supernormal profits in the short run for a firm in perfect competition.
Average cost will be lower than marginal costs. MC cuts AC at its lowest point. Firms are profit maximises and therefore produce where MC is equal to MR. here supernormal profits are made.
why are supernormal profits only made in the short run for firms in perfect competition?
Other firms would have the incentive to enter the market and could do so easily at zero start-up cost no barriers to entry. The entry of new firms stimulates an increase in supply for the industry which decreases the market price. The firm is the price taker, so take this new price, and this decreases profits from supernormal profit to normal profit.
draw and explain a loss in the short run for firms in perfect competition
The average cost curve is above the marginal revenue curve. Here, costs are greater than revenues. The firm is profit maximising where MR is equal to MC however a loss is made.
why does a loss only occur in the short run for firms in perfect competition?
If a firm is making losses in the long run firms would leave the industry as there are no batteries to exit.As a result total supply falls, supply shifts inwards causing a contraction in demand. This leads to normal profits.
what are the positives of perfect competition in the long run?
- allocative efficiency is achieved as P equals MC. This is because the optimal distribution is achieved when the marginal utility of the good equals the marginal cost. The price that consumers are willing to pay is the same as the marginal utility of consumers.
- productive efficiency is achieved as a produced at the lowest point on AC. Cost are the lowest.
what are the negative of perfect competition in the long run?
- dynamic efficiency is not achieved. This is of course no supernormal profit is made this makes investment in research and development unlikely and so firms may become static and cost do not reduce overtime.
- there is no scope for economies of scale. This is because there are many small firms producing homogenous goods at a relatively small amount so there is no scope for economies of scale therefore if an industry has high fixed costs it is unsuitable for perfect competition.
what is a pure monopoly?
a market with a single seller.
however firms can have monopoly power.
what are the assumptions of the monopoly model?
choses output where mc=mr (prof max)
single seller
high barriers to entry
price maker
no substitutes
what are the examples of barriers to entry?
economies of scale (high fixed costs)
other cost advantages
government legislation
high switching costs
strategic actions
limit pricing
brand loyalty
high sunk costs
network effects
what is productive efficiency?
when a firm is producing at the bottom of the AC curve (the minimum cost that output can be produced).
economies of scale have been fully exploited
consumer: low prices, cons welfare
producer: increased production, profit, market share
what is allocative efficiency?
producing a balance of goods and services that match consumer preferences (Pareto efficiency) where P=MC
consumer: low price, max cons surplus, choice
producer: market share, competitive, profit
what is dynamic efficiency?
reinvestment of supernormal profits to decrease LRAC
consumer: quality, low price in LR
producer: low cost, market share, competitive
what is x-innefficency?
when average costs are higher than they would be with competition. this is because of wastage.
increase in LRAC
draw and explain a monopoly diagram.
Downward sloping demand curve as they are price makers
Steep demand curve as PED inelastic
