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Learn about perfect competition & monopoly, features, equilibrium scenarios, industry supply, pros & cons. Explore the dynamics of different market structures.
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Perfect Competition and Monopoly Alternative Market Structures
Alternative market structures • Classifying markets by degree of competition • number of firms • freedom of entry to industry • nature of product • nature of demand curve • The four market structures • perfect competition • monopoly • monopolistic competition • oligopoly
Alternative market structures • Classifying markets by degree of competition • number of firms • freedom of entry to industry • nature of product • nature of demand curve • The four market structures • perfect competition • monopoly • monopolistic competition • oligopoly • Structure conduct performance
Perfect Competition and Monopoly Perfect Competition
Perfect competition • Assumptions • firms are price takers • freedom of entry • identical products • perfect knowledge • Short-run equilibrium of the firm • P = MC • possible supernormal profits
Short-run equilibrium of industry and firmunder perfect competition £ MC AC S D = AR Pe AR = MR AC D O Q (thousands) (b) Firm Firm is a price taker. Price is given by the market. P O Qe Q (millions) (a) Industry
Perfect competition • Assumptions • firms are price takers • freedom of entry • identical products • perfect knowledge • Short-run equilibrium of the firm • P = MC • possible supernormal profits • possible short-run loss
Loss minimising under perfect competition AC MC AC D1 = AR1 P1 AR1 = MR1 Qe Loss is minimised where MC = MR. P £ S D O O Q (thousands) Q (millions) (a) Industry (b) Firm
Perfect competition • Assumptions • firms are price takers • freedom of entry • identical products • perfect knowledge • Short-run equilibrium of the firm • P = MC • possible supernormal profits • possible short-run loss • short-run supply curve of firm
Deriving the short-run supply curve S MC a P1 b P2 c P3 D1 D2 D3 P £ = S D1 = MR1 D2 = MR2 D3 = MR3 O O Q (thousands) Q (millions) (a) Industry (b) Firm
Perfect competition • Short-run supply curve of industry • Long-run equilibrium of the firm • all supernormal profits competed away
Long-run equilibrium under perfect competition S1 Se LRAC P1 AR1 D1 PL ARL DL D Profits return to normal Supernormal profits New firms enter P £ O O QL Q (thousands) Q (millions) (a) Industry (b) Firm
Long-run equilibrium under perfect competition (SR)MC (SR)AC LRAC DL AR = MR LRAC = (SR)AC = (SR)MC =MR= AR £ O Q
Perfect competition • Short-run supply curve of industry • Long-run equilibrium of the firm • all supernormal profits competed away • Long-run industry supply curve • effect of external economies and diseconomies on the shape of the curve
Various long-run industry supply curves under perfect competition S2 b c a Long-run S D2 S1 P D1 O Q (a) Constant industry costs
Various long-run industry supply curves under perfect competition S2 b Long-run S c D2 P S1 a D1 O Q (b) Increasing industry costs: external diseconomies of scale
Various long-run industry supply curves under perfect competition S2 b c Long-run S D2 P S1 a D1 O Q (c) Decreasing industry costs: external economies of scale
Perfect competition • Short-run supply curve of industry • Long-run equilibrium of the firm • all supernormal profits competed away • long-run industry supply curve • effect of external economies and diseconomies on the shape of the curve • Incompatibility of economies of scale with perfect competition
Perfect competition • Advantages of perfect competition • P = MC • production at minimum AC • only normal profits in long run • responsive to consumer wishes: consumer sovereignty • competition efficiency • no point in advertising
Perfect competition • Disadvantages of perfect competition • insufficient profits for investment • lack of product variety • lack of competition over product design and specification
Perfect Competition and Monopoly Monopoly
Monopoly • Defining monopoly • Barriers to entry • economies of scale • product differentiation and brand loyalty • lower costs for an established firm • ownership or control over key factors • ownership or control over outlets • legal restrictions • mergers and takeovers • aggressive tactics • intimidation • Natural monopoly
Natural monopoly A monopoly can make supernormal profits between a and b. a b LRAC D1 D2 £ Two firms sharing the market will both make less than normal profit. O Q
Monopoly • The monopolist's demand curve • downward sloping • MR below AR
Average and marginal revenue under monopoly £ AR MR O Q
Monopoly • The monopolist's demand curve • downward sloping • MR below AR • Equilibrium price and output • output where MC = MR
Profit maximising under monopoly MC MR £ Profit maximised at output of Qm (where MC = MR) Qm O Q
Monopoly • The monopolist's demand curve • downward sloping • MR below AR • Equilibrium price and output • output where MC = MR • price given by demand (AR) curve
Profit maximising under monopoly Total profit AC AR AC AR £ MC MR Qm O Q
Monopoly • The monopolist's demand curve • downward sloping • MR below AR • Equilibrium price and output • output where MC = MR • price given by demand (AR) curve • Limit pricing
Limit pricing ACnew entrant PL AC monopolist £ Provided price is kept below the limit price (PL), new firms cannot make a profit. O Q
Monopoly • Disadvantages of monopoly • high prices / low output: short run
Equilibrium of industry under perfect competitionand monopoly: with the same MC curve MC AR = D MR £ Monopoly P1 Q1 O Q
Equilibrium of industry under perfect competitionand monopoly: with the same MC curve P2 £ MC ( = supply under perfect competition) Comparison with Perfect competition P1 AR = D MR Q1 Q2 O Q
Monopoly • Disadvantages of monopoly • high prices / low output: short run • high prices / low output: long run • lack of incentive to innovate • X-inefficiency • Advantages of monopoly • economies of scale
Equilibrium of industry under perfect competitionand monopoly: with different MC curves £ MCmonopoly P1 AR = D MR O Q1 Q
Equilibrium of industry under perfect competitionand monopoly: with different MC curves MC ( = supply)perfect competition £ MCmonopoly Higher price (P2) under perfect competition P2 P1 x … as long as MCmonopoly is below point x AR = D MR Q2 O Q1 Q
Equilibrium of industry under perfect competitionand monopoly: with different MC curves MC ( = supply)perfect competition £ MCmonopoly P2 Monopoly could produce at even lower price by producing where MC = P. P1 x P3 AR = D MR Q2 Q3 O Q1 Q
Monopoly • Disadvantages of monopoly • high prices / low output: short run • high prices / low output: long run • lack of incentive to innovate • X-inefficiency • Advantages of monopoly • economies of scale • profits can be used for investment • promise of high profits encourages risk taking
Perfect Competition and Monopoly Contestable Markets
Contestable markets • Importance of potential competition • low entry costs • low exit costs • Perfectly contestable markets
A contestable monopoly a £ P1 LRAC D = AR Q1 O Q