micro- market structure Flashcards
list market objectives
- profit maximisation= MR=MC
- revenue maximisation= MR=0
- sales maximisation= AR=AC
define structure of a market
describes the number & size of produces in a market
factors of different market structures
- How many firms compete in industry
- How big firms are in industry
- How differentiated products are
- How easy it is for firms to enter & exit the industry
list key features of market structures
Number of firms
Market share of the largest firms
Nature of production costs
Degree to which industry is vertically integrated
How differentiated or homogeneous the product is?
Strength of buyer (customers) power (monopsony?)
Barriers to entry
define monopsony
market condition in which there’s only one buyer
because there is only one buyer for a good or service= buyer sets the demand= controls the price
define sunk costs
costs that a firm has already committed to & cannot be recovered: marketing, research & development, etc
define homogeneous goods
meaning every unit of the good is identical (gold, steel, cement, fruits)
define market power
ability of a firm to set their prices above a level that would exist in a highly competitive market
= higher prices allow a firm with market power to earn higher supernormal profits
define a contestable market
there are low barriers to entry & exit= new firms able to enter the market & compete with established firms
= new entrants have access to the same production techniques as established firms
define concentration ratio
measurement of how concentrated a market is
= measures total market share held by largest firms in a market
concentration ratio formula
Total sales by a specific number of large firms
/Industry’s total sales X100
key features of market monopoly
- Pure monopoly= one firm only
- Dominant monopoly= a firm with at least 25% market share
- Legal monopoly= monopolist firm with a gov mandate
- Natural monopoly= one firm only serves the market most efficiently due to cost advantages
- Price maker
- High barriers to entry & exit
- Unique product
- Objective of profit maximisation
describe barriers of market entry and examples
- prevent firms entering market= protects existing firm’s dominant position
Examples include: - Economies of scale (high minimum efficient scale or MES)
- Brand loyalty
- Intellectual property protection (patent)
- Vertical integration (controlling the supply chain)
- Capital (£)& expertise
- Legal protection (the gov may allow only one provider such as rail services)
describe natural monopoly
occurs when the most efficient number of firms in the industry is one
= occurs in industries where fixed costs & MES are very high
= a single company can produce a product at a lower cost than its competitors can
= resulting in practically no competition in the market
features of natural monopoly
- High start-up & fixed costs
- Potential for economies of scale at at high level of output
define X-efficiency
X-efficiency is the term used to describe the optimal level of efficiency.
= refers to a situation where efficiency falls short of this optimal level
impact of market monopoly on market monopoly
In an industry with high fixed costs, a single firm can gain lower LR average costs by exploiting economies of scale
= important for firms operating in a natural monopoly
= e.g. would make no sense to have many small companies providing tap water because these small firms would be duplicating investment and infrastructure
= large-scale infrastructure makes it more efficient to just have one firm – a monopoly
impact of market monopoly on innovation (adv)
Without monopoly power, drug companies would be unwilling to invest so much in drug research
= monopoly power provides incentive for firms to develop new tech and knowledge= can benefit society
= monopolies make supernormal profit and this can be used to fund investment= leads to improved tech and dynamic efficiency
impact of monopoly power on efficiency (adv)
Firms may gain monopoly power by being better than their rivals
= e.g. Google has monopoly power on search engines
Advantages of being a monopoly for a firm
- can charge higher prices= more profit than in a competitive market
- can benefit from economies of scale
- can use their monopoly profits to invest in research and development= build up cash reserves for difficult times
disadv of monopoly market
- higher prices than in competitive markets= face inelastic demand= can increase prices= giving consumers no alternative
- decline in consumer surplus= consumers pay higher prices= fewer consumers can afford to buy= leads to allocative inefficiency because the price is greater than marginal cost
- monopolies have fewer incentives to be efficient= with no competition a monopoly can make profit without much effort= can encourage x-inefficiency
- possible diseconomies of scale= big firm may become inefficient as its harder to coordinate and communicate in a big firm
define supernormal profit
excess profit a firm makes above the normal profit
= calculated by Total Revenue – Total Costs
define normal profit
minimum level of profit necessary to keep a firm in that line of business= enables firm to pay a reasonable salary to its workers and managers
=occurs when AR=ATC
importance of profit in a market economy
- enables a firm to spend more on research and development= lead to better technology, lower costs and dynamic efficiency
- higher profit should enable higher wages for all workers
- acts as an incentive for entrepreneurs to set up a business
- gov charge corporation tax on company profits
list types of market structures
perfect competition, monopoly, oligopoly, monopolistic competition, contestable markets
describe perfect competition
- free of entry or exit
- homogenous goods (perfect info)
- normal profit
- Large number of firms in the industry
- Every unit is sold at the same price
describe monopoly
- difficult entry
- highest prices of competitive market
- economies of scale
describe oligopoly
- few large firms dominate market
- interdependence of firms
- some barrier to entry
describe monopolistic competition
- several firms with brand loyalty
- low barriers of entry
- firms produce more differentiated products
- less profit than monopoly
describe contestable markets
- number of firms not important
- low sunk costs
- free entry and exit
describe collusive oligopoly
- few firms fix prices
- high profits like monopoly
describe profit maximisation in market monopoly
firms must set a higher price and a lower quantity of goods than a competitive market
MC=MR
adv of oligopoly
- competitive oligopoly can lead to price wars= cause consumer surplus
- battle for market share= increase R and D= dynamic efficiency= innovation
- dominant firms can exploit economies of scale= lead to lower AC and lower prices in LR
- high supernormal profits can be taxed= source of revenue for gov
disadv of oligopoly
- risk of cartel behaviour= lead to increase prices= cause loss of allocative efficiency
- high concentration ratio limits consumer choice and barriers to entry may deter innovative smaller firms from profitable entry
- persuasive advertising can manipulate preferences and distort allocation of price mechanism
- many transnational oligopolies avoid paying tax through shadow pricing= leave gov with less money
what happens to the market in perfect competition
Each business is a price taker
Each business is small relative to the size of the industry =its output decisions have no noticeable effect on the industry supply=don’t change the market price
= means the demand in this industry is perfectly elastic
= if a firm increases its price it will not sell at all
what happens if several other firms exit the industry
output will decrease & shift the industry supply curve inwards= bring the market price back up
What happens to the number of firms in a perfect competition market when supernormal profits are made?
If several other firms enter the industry, output will increase noticeably & shift the industry supply curve outwards, bring the market price down
features of perfect competition & efficiency
Firms in a perfect competitive market are operating at allocative efficiency output
Firms are also operating at productive efficiency output
Firms are unlikely to achieve dynamic efficiency due to the lack of supernormal profit
