Market Structures Flashcards
What is a market?
A place where buyers and producers communicate to exchange goods and services. All markets are different and the firms in those markets will behave differently.
Factors which determine market structures:
- Market concentration ratios - the market share of the most powerful producers in the market
- Barriers to entry and exit
What is perfect competition and what are its characteristics?
Perfect competition describes a market structure where there is a high degree of competition.
- Large number of buyers and sellers - none long enough to influence price as so small (price takers)
- Freedom of entry and exit
- Transparency - perfect knowledge between buyers and sellers
- Homogeneous product - no branding
See sheets for output and revenue for this market structure - graphs too
What efficiencies occur in perfect competition and why?
- Productive efficiency - this is due to production being at the lowest possible cost. (see diagram for full explanation)
- Allocative efficiency - this is due to the price the last consumer pays is no more than the cost of producing that unit. The firm is not exploiting the consumer by charging to high price. P = MC
Why would a abnormal profit not be long term in a perfectly competitive market?
Other firms in the economy will be aware of the profit (perfect knowledge) and would enter the market (free barriers to entry & homogenous product). This increases supply and reduces price and erodes abnormal profit.
What is a monopoly and its characteristics?
A monopoly is a market structure where one firm supplies all output in the industry without facing competition because of high barriers to entry in the industry.
- Only one firm in the industry
- High barriers to entry and exit
See sheet for revenue curves and output levels with graphs (supernormal profits)
Is a monopolist allocative or dynamic efficient and why? (see sheet for productive)
- It is not allocative efficient - prices are higher and output is lower. This means that price is larger than marginal cost and consumer choice is restricted. Monopolists exploit the customer to make supernormal profits.
- Dynamic efficiency means innovation - the supernormal profits made provide the finance and incentive to research and develop new goods. Without supernormal profits they wouldn’t be able to invest dynamically.
What is monopolistic competition and what are its characteristics?
A market structure where a large number of small firms produces a non homogeneous product product with no barriers to entry and exit.
- Large number of buyers and sellers
- Easy entry and exit
- Perfect knowledge
Look at sheets for output and revenue graphs of this market structure.
Is productive and allocative efficiency achieved in monopolistic competition?
- Allocative is not achieved as the price charged is higher than the equilibrium output on graph. This means that the price charged is higher than the cost of it.
- Productive efficiency is not achieved as firms restrict output to Q, which is not at the lowest point on the average cost curve.
Refer back to diagrams.
What is an oligopoly and its characteristics?
A market structure where there are few interdependent firms competing with each other and a large number of buyers. Barriers are likely to exists.
- Supply concentrated in the hands of relatively few firms (3-15), each have relatively large market shares
- They are interdependent and recognise this
- High barriers to entry
- Large economies of scale
See sheet for behaviour and graphs of oligopolistic markets
What is a contestable market?
A contestable market is a market in which there are low barriers to entry or exit and the costs facing existing and new firms are similar
What does the theory of contestable markets suggest?
It suggests that how firms behave in a market is not down to competition or efficiencies, but more the threat of entry into the industry from new firms
If the threat of entrants is high, it will cause firms to set prices low, to only achieve a normal profit, to prevent any new firms joining a profitable market resulting in the market being dominated by few small firms
What are the characteristics of a contestable market?
- Profit maximisation
- Differentiated products
- Low barriers to entry and exit
- Firms compete and don’t collude
- Allocate and productive efficient
NOT lots of small price taking firms
How do firms behaving within a contestable market?
As there is a threat of hit and run entry into the market, firms create artificial barriers to entry into the market (read sheet for more detail):
- Entry limit pricing - setting price low enough to deter new entrants coming into the market
- Build up over capacity - flood the market with cheap output in the event of new competition
- Predatory pricing - if a new firm does enter the market, existing firms may react by setting prices very low to eliminate the entrant
- Non-price competition - branding, advertising etc in order to differentiate products and create brand loyalty
What are the outcomes for perfect competition?
- All firms are price takers
- Normal profits for all firms in the long run
- Production at minimum AC (productive efficient) and P=MC (allocative efficient)
