The Firm and Market Structures

Question 1

What are the four characteristics of perfect competition?

Answer 1

1. Many firms, each small relative to the market.
2. Very low barriers to entry into or exit from the industry.
3. Homogeneous products that are perfect substitutes, no advertising or branding.
4. No pricing power.

Question 2

Give an example of an industry that closely resembles perfect competition:

Answer 2

The industry that best reflects perfect competition in real life is the agricultural industry.

Question 3

What are the four characteristics of monopolistic competition?

Answer 3

1. Many firms.
2. Low barriers to entry into or exit from the industry.
3. Differentiated products, heavy advertising and marketing expenditure.
4. Some pricing power.

Question 4

What is the main difference between perfect competition and monopolistic competition?

Answer 4

Monopolistic competition differs from perfect competition in that production does not take place at the lowest possible cost. Because of this, firms are left with excess production capacity.

Question 5

What are the four characteristics of oligopoly markets?

Answer 5

1. Few sellers.
2. High barriers to entry into or exit from the industry.
3. Products that may be homogeneous or differentiated by branding and advertising.
4. Firms that may have significant pricing power

Question 6

Give an example of a retail market that closely resembles oligopoly markets:

Answer 6

The retail gas market is a good example of an oligopoly because a small number of firms control a large majority of the market.

Question 7

What are the four characteristics of a monopoly?

Answer 7

1. A single firm that comprises the whole market.
2. Very high barriers to entry into or exit from the industry.
3. Advertising used to compete with substitute products.
4. Significant pricing power.

Question 8

What is the equation for perfect competition in equilibrium?

Answer 8

Price = marginal revenue = marginal cost (in equilibrium).

Question 9

What are the characteristics of elasticity of demand and economic profit in a perfect competition at equilibrium?

Answer 9

• Perfectly elastic demand,
• zero economic profit in equilibrium.

Question 10

What is the equation for monopolistic competition in equilibrium?

Answer 10

Price > marginal revenue = marginal cost (in equilibrium)

Question 11

What are the characteristics of elasticity of demand and economic profit in a monopolistic competition at equilibrium?

Answer 11

• Elasticity > 1 (elastic but not perfectly elastic)
• zero economic profit in long-run equilibrium

Question 12

What are the characteristics of elasticity of demand and economic profit in a monopoly at equilibrium?

Answer 12

• Elasticity > 1 (elastic), may have positive economic profit in long-run equilibrium,
• profits may be zero because of expenditures to preserve monopoly.

Question 13

What are the characteristics of elasticity of demand and economic profit in a oligopoly at equilibrium?

Answer 13

• Elasticity > 1 (elastic), may have positive economic profit in long-run equilibrium,
• but moves toward zero economic profit over time.

Question 14

What is the equation for oligopoly in equilibrium?

Answer 14

Price > marginal revenue = marginal cost (in equilibrium).

Question 15

What is the equation for a monopoly at equilibrium?

Answer 15

Price > marginal revenue = marginal cost (in equilibrium.

Question 16

Under perfect competition, a firm’s short-run supply curve is the portion of the firm’s?

Answer 16

Short-run marginal cost curve above average variable cost.

Question 17

Under perfect competition, a firm’s long-run supply curve is the portion of the firm’s?

Answer 17

Long-run marginal cost curve above average total cost.

Question 18

All firms maximize profits by producing the quantity of output for which?

Answer 18

• Marginal cost equals marginal revenue.
• Under perfect competition (perfectly elastic demand), marginal revenue also equals price.

Question 19

Firms in monopolistic competition or that operate in oligopoly or monopoly markets all face what kind of demand curve?

Answer 19

Downward sloping demand curves.

Question 20

How is the concentration ratio for N firms calculated?

Answer 20

• The percentage of market sales accounted for by the N largest firms in the industry
• used as a simple measure of market structure and market power.

Question 21

How is the Herfindahl-Hirschman Index measure of concentration calculated?

Answer 21

• The sum of the squared market shares of the largest N firms in an industry.
• Better reflects the effect of mergers on industry concentration.

Question 22

What is the downside of the Concentration Ratio and Herfindahl-Hirschman Index?

Answer 22

Neither measure actually measures market power directly. Both can be misleading measures of market power when potential competition restricts pricing power.

Question 23

What are the steps to identifying the market structure in which a firm is operating?

Answer 23

1. Examine the number of firms in its industry,
2. Whether products are differentiated or other types of non-price competition exist,
3. Barriers to entry, and
4. Compare these to the characteristics that define each market structure.