Market structures
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Market Structures. Objectives. Examine the models of market structure Concept of an efficient market structure in terms of costs, prices, output and profit. Economies of Scale. Define. Market Structure. Importance:

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Market Structures


Objectives

  • Examine the models of market structure

  • Concept of an efficient market structure in terms of costs, prices, output and profit.


Economies of Scale

  • Define


Market Structure

Importance:

Degree of competition affects the consumer – will it benefit the consumer or not?

Impacts on the performance and behaviour of the company/companies involved


4 Market Structures

Perfect Competition

Monopolistic Competition

Oligopoly

Monopoly


Market Structure

Pure Monopoly

Perfect

Competition

Monopolistic Competition

Oligopoly

Duopoly

Monopoly

The further right on the scale, the greater the degree of monopoly power as competition decreases


Characteristics

  • No. of firms

  • Size of firms

  • The Product

  • Barriers to entry

  • Price taker or maker

  • Concentration Ratio good indicator!


Market Outcomes

Cost

Price

Output

Profit

Efficiency


Market Structure

  • Models – a word of warning!

    • Market structure deals with a number of economic ‘models’

    • These models are a representation of reality to help us to understand what may be happening in real life

    • There are extremes to the model that are unlikely to occur in reality

    • They still have value as they enable us to draw comparisons and contrasts with what is observed in reality

    • Models help therefore in analysing and evaluating – they offer a benchmark


Market Structure

Electric Guitar – Jazz Body

Vodka

Mercedes CLK Coupe

Canon SLR Camera

Bananas

Characteristics: Look at these everyday products – what type of market structure are the producers of these products operating in?

Remember to think about the nature of the product, entry and exit, behaviour of the firms, number and size of the firms in the industry.

You might even have to ask what the industry is??


Characteristics

Number of Firms

Barriers to entry could be;

Capital costs

Sunk costs

Scale economies & natural monopoly

Natural cost advantages

Legal barriers

Marketing

Restrictive practices

Product – homogeneity & branding

Knowledge

Interrelationships

(Profit Maximisation)


Efficiency

  • Why is this important in a market structure?


1.Productive Efficiency

Firm operating at lowest point of SRAC

Cost

MC

SRAC

Output


2. Efficiencies of Scale

  • Lowest point of LRAC curve. Economies of Scale

    • Draw the diagram


3. Allocative Efficiency

  • Resources used effectively

  • producing the goods most wanted by consumers, given their cost of production.

  • Achieved where Price = Marginal Cost.

    The price the last consumer is prepared to pay is exactly equal to the cost of producing the last unit.


4.Dynamic Efficiency

  • It is necessary for firms to constantly introduce new technology and reduce their costs over time.


5. X inefficiency

  • Firms do not have incentives to cut costs. A firm’s AC curve will be higher than in a competitive market

  • Which market structure would you see this inefficiency?


Also, Normal Profit

  • Is the firm operating at normal profit? This represents an efficient market.

  • Abnormal profits – Consumers exploited

  • Losses – Firm should move industry


Efficiency & Markets

THE THEORY - In an efficient market system:

  • Competition leads to

    • Productive efficiency in SR.

    • Efficiencies of Scale in LR

  • Price mechanism leads to allocative efficiency (P=MC)

    BUT – do markets operate efficiently?


Perfect Competition

Purpose of a ‘perfect’ model

Assumptions

Many buyers and sellers – price takers

Freedom of entry and exit

Perfect knowledge

Homogenous products


The Model

Firm has no effect on the market

Perfectly elastic demand curve – price taker

Increase in price leads to zero demand

No incentive to reduce price

D=AR=MR


The Firm

The Market

P

P

S

Pe

D=AR=MR

D

Qe

Q

Q

Pe


Short-run Profit Maximisation

P

MC

SRAC

Pe

D=AR=MR

Qe

Q


Short-run Equilibrium

The Firm

The Market

P

P

S1

MC

S2

SRAC

D1=AR=MR

P1

P1

D2=AR=MR

P2

D

Q2

Q1

Q2

Q

Q


Short-Run Outcomes

Abnormal profit possible only in the very short run

Normal profit in short run equilibrium

Price lowered by competition – increase in consumer surplus

Maximises productive and allocative efficiency


Establishing a Long-run Equilibrium

Firms expand in order to take advantage of economies of scale and re-establish abnormal profits

Further entry into the market erodes this abnormal profit

The Firm

The Market

P

P

S1

SRAC1

MC1

S2

SRAC2

MC2

P1

P1

D1

P2

D2

P2

D

Q1

Q1

Q2

Q2

Q

Q


Long-run equilibrium

P

LRAC

MC

D=AR=MR

Pe

Qe

Q


Long-Run Outcomes

Maximising profit, productive and allocative efficiency

Dynamically efficient

Normal profit in long run

Reduced price and increased output


Monopoly

One firm

Barriers to entry – natural monopoly


The Model

Price maker – downward sloping demand curve

£

MC

AC

Pe

Abnormal Profit

D=AR

MR

Qe

Q


Outcomes

Can make abnormal profits in short-run

Barriers to entry prevent competition

Can make abnormal profits in the long-run

No incentive to max. efficiency

Prices likely to be high


Discriminating Monopoly

Types

Time

Place

Income

Age

Conditions

Different elasticities

Separate markets


£

Appropriated Consumer Surplus

PA

Pe

AR=D

QA

Qe

Q


Oligopoly

A few large firms

Interdependence

Significant barriers to entry

Branded goods


The Model

Abnormal profits in short-run

Barriers to entry prevent competition:

L-shaped AC curve

Branding

Collusion

Abnormal profits in long-run

Non-price competition & price rigidity

£

AC

MES

Q


Kinked Demand Curve

£

MC2

MC1

AR=D

MR

Q


Monopolistic Competition

Large number of buyers and sellers

No barriers to entry or exit

Perfect knowledge

Goods are differentiated


The Model

Downward sloping demand – not price takers

Demand likely to be elastic – little market power


Short-run

Abnormal profit possible in the short-run

Abnormal profits attract new entrants

AR curve shifts inwards and profit is competed away

£

MC

AC

Pe

Abnormal Profit

D=AR

MR

Q

Qe


Long-run

£

MC

AC

Pe

D=AR

MR

Qe

Q


Outcomes

Normal profit in the long-run due to free entry & exit

Cannot maximise efficiency (allocative or productive)

Price lowered by competition


Additional Note: Production in the short-run

Firms may continue to produce even when they are making losses.

In the short-run they only need to cover variable costs.

They may expect demand to rise in the long-run and cover fixed costs.

Long-run production decisions are based on total costs.

Firms will leave the market if they make losses in the long-run.


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