Market Structures Flashcards
What are the different market structures? (In order of most competitive to least competitive)
Perfect Competition
Monopolistic Competition
Oligopoly
Monopoly
Perfect Competition Characteristics
- Infinite Number of Firms
- No Barriers to Entry or Exit
- Price Takers (Firms have no control over price)
- Identical Products
Advantages of Perfect Competition
Allocative Efficiency + Productive Efficiency
Pareto Outcome (Consumers maximise their surplus)
X efficiency (Firms incentivised to keep their costs down to survive)
Disadvantages Of Perfect Competition
No Dynamic Efficiency (Firms had no long run supernormal profits to re-invest into technological developments)
Monopoly Characteristics
- Single Firm and many consumers
- Barriers to entry and exit
- Price Maker (Downwards Sloping Demand Curve)
- Absence Of Close Substitutes
Advantages Of A Monopoly
- Supernormal Profits can be reinvested into R&D
- Economies Of Scale
- Internationally Competitive
Disadvantages Of A Monopoly
- Deadweight Loss (To Consumer)
- Limited incentive to be efficient with costs (X - inefficiency)
- Limited choice
- Limited incentive to produce at a high quality
Oligopoly Market Characteristics
- Small number of firms in industry
- Four firm concentration ratio > 75%
- Kinked Demand Curve
- Interdependence (Actions of 1 firm influence actions of another)
- Some Control Over Price
- Long Run SN Profits
- High Barriers To Entry
Advantages Of Oligopolistic Markets
- Economies Of Scale
- Incentive For Firms To Be Efficient (Reduced Risk Of X-Inefficiency)
- Supernormal Profits can be reinvested into R&D (Dynamic Efficiency)
- Element Of Consumer Choice
Disadvantages Of Oligopolistic Markets
- Risk Of Collusion (Game Theory)
- Allocatively Inefficient
Monopolistic Competition Characteristics
- Large Number Of Sellers And Buyers
- Product Differentiation
- Non Price Competition
- Low Barriers to Entry and Exit
- Limited but some degree of price control (downwards demand curve)
- SR SN but LR N Profit levels
Monopolistic Competition Advantages
- Incentive to produce at a high quality (Improving consumer utility)
- Incentive to be efficient with costs (Reduced X-Inefficiency)
Monopolistic Competition Disadvantages
- Normal Profits in the Long Run reduce ability to re-invest in R&D (Reduced Dynamic Efficiency)
Contestable Market Characteristics:
- Low or No Sunk Costs
- 75% of market is controlled by a small numbers of firms
- Rest of market is controlled by a large numbers of firms
Advantages Of Contestability
- ## Incentive to keep costs down (reduced X-inefficiency)
Disadvantages Of Contestable Markets
-Limited dynamic efficiency improvements as not all firms make supernormal profits
-Allocatively inefficient (MC ≠ P) so consumers face a loss in their consumer surplus
Examples Of Each Market
Perfect Competition - Currency Exchange, Wheat
Monopoly - Tesco, Apple
Oligopoly - Smartphone Network Providers
Monopolistic Competition - Restaurants, Hair Salons
Contestable Markets - Electricity Suppliers and Retail Stores
Natural Monopoly
Where a monopoly naturally arises
Huge sunk costs and economies of scale make it more efficient for one firm to run the industry
Advantages of natural monopoly
High supernormal profits for R&D
One firm has large amount of capital which can be used for purchasing economies of scale
Disadvantages of a natural monopoly
Lack of incentive to be efficient (X-inefficiency)
Price is significantly above P=MC so there is allocative inefficiency
How does a monopoly obtain price setting power?
A monopoly has price-setting power because it is the sole supplier in the market and faces no close substitutes.
High barriers to entry prevent new firms from entering, so the monopolist faces the market demand curve directly.
This allows it to choose the profit-maximising price and output, rather than being a price taker like in perfect competition.
Why does a firm in perfect competition have no price setting power?
The goods are identical meaning if a firm raises their prices, their consumers will switch to one of the other firms.
The competition between the many firms drives prices down to the point where p=mc, meaning a further reduction in price would cause losses.
Why do firms in an oligopoly have some price setting power?
A few large firms dominate the market, leading to interdependence and strategic behaviour
Firms use high market share to influence price as their market share is large enough to the extent where their pricing decisions affect market outcomes.
Prices are sticky due to fear of price wars, and firms may avoid lowering prices even if MC < P.
Why does a higher market share allow for greater price control?
A higher market share gives firms more control over market supply, allowing them to set prices. They can also influence competitors’ pricing and benefit from economies of scale, reducing costs and maintaining profitability at higher prices.
