Types of Market in Economy - Essay Example

Market in Economy Full ID: Section Number: Introduction One of the most important aspects of economics is market. Here the parties are involved in buying and selling of goods and services. The market enables in the allocation and distribution of resources by facilitating trade. The major four different types of market in economies are perfect competition, oligopoly, monopolistic competition, and monopoly. These four different types of market have various characteristics. In perfect competition firms are the price taker and they all sell similar products. It is known as pure competition with many buyers and sellers. In oligopoly the whole market is controlled by small group of firms. Here at least two firms control the market. This market has small competition with high price. Monopolistic competition is an imperfect competition where many producers sell different types products. There are large numbers of customers and sellers. In monopoly market there is a single supplier and large number of buyer. The seller produces a particular commodity. This four types of market rules the economy. Characteristics of each market Figure 1: Perfect Competition (Dwivedi, 2002) The characteristics of perfect competitive market are the buyers and sellers cannot affect the price of the market. Here the firms always try to maximize the profit by increasing the output levels. A huge amount of competition exists in the market. Entry and exit from this market is very easy for the firms. Barriers in entering the market are less. Many small firms are present in a large number (Dwivedi, 2002). Almost identical products are sold by the companies. There is a perfect knowledge of price and technology is present in the market. All the firms in perfect competition maintain almost the same price and faces horizontal demand. Figure 2: Monopolistic Competition (Dwivedi, 2009) In monopolistic competition there are different types of product with many firms. The products of the companies are almost same. The firms produce close substitute products. This market is characterized with various products and many firms. In the long run of monopolistic competition there is no exit and entry cost in the long run. The buyers and sellers are the independent in making decision (Dwivedi, 2009). They don’t have perfect information about the market. The companies in this market incur a huge expenditure on its advertisements for attracting customers. The firms charge the price which is higher than marginal cost. A firm operating in a monopoly market is the only seller of products or services without any such close substitutes. Monopoly market represents a specific economic structure. Monopolies are usually characterized by competition lack within a market producing similar goods. Figure 1 represents a graph showing change in price and output change. Figure 3: Monopoly (McChesney, 2008) The major characteristics of monopoly market are it acts as a profit maximize since lack of competition facilitates firms to charge high price and maximize revenue. Monopoly is a price maker and decides upon the prices of goods to be sold. There are high barriers to market entry in monopoly and the entire market is served by a single firm. Price discrimination is another characteristic of monopoly. In monopoly market, firms can alter prices of products or services. For higher prices in an elastic market a firm can reduce the total quantity to be sold. Oligopoly is an industry or market that is dominated by small group of sellers. Oligopolies mainly result from collusion that results into higher prices and reduces market competition. This form has its own specific market structure. There are certain major characteristics of oligopoly. An oligopoly usually maximizes obtained profit margins. Oligopolies are not price takers but rather price setters. Entry barriers are high in oligopoly market. Most important barriers are economies of scale, government licenses, patents, strategic actions, and access to complex or expensive technology. There is less number of firms and actions of one firm have strong influence on others. Oligopoly market can retain long term profits and acquire high revenue margins. Product differentiation is another characteristic of oligopoly market (McChesney, 2008). Interdependence is other feature of oligopoly and it encompasses few large sized firms. The size of these firms is so large that it has an impact on market conditions. Oligopolies basically compete on large number of factors other than price. Non-price competition mainly includes advertisement, product differentiation and loyalty schemes. Figure 4: Price and output determination in perfect competition (McEachern, 2011) In perfect competition the demand and supply varies with price. The equilibrium price is the point where demand and supply of the quantity are equal. Under perfect competition the price remains constant. The firm determines the output level for maximizing its profit. In the short run the company incurs fixed cost even if the output level is nil. Therefore the average variable cost becomes important for determining the price of the product. When the marginal cost and marginal revenue of the firm is equal and marginal cost cuts marginal revenue curve from below then the firm makes maximum profit. In the long run the price and the output level depend on the supply of the commodities and its demand. Figure 5: Price and output determination in monopolistic competition (McEachern, 2011) In monopolistic competition each firms determines the price of the product. It faces a downward sloping demand curve. The demand curve will be more elastic with the less differentiated product. Under this competition equilibrium position is when marginal revenue is equal to marginal cost. As long as marginal revenue is greater that marginal cost the firm will be in profitable position to increase its output. In the long run new companies enter into the market which decreases the profit of the firms and the demand curve shifts left. Many substitute products comes in the market which decrease the supernormal profit of the firm. Therefore equilibrium of this competition in long run is established when average revenue is equal to average cost. The oligopoly market determines the price and output of the product on the basis of the number of companies and its product differentiation (McEachern, 2011). When there are few companies each selling homogenous products and have strong influence on the total market the price and the output affects each other in a large extent. In case their product are different the firms lowers or raises its price based on the demands. Figure 6: Price and output determination in monopoly market In the monopoly market the price is determined by a single seller. For selling more the price is reduced by the seller. Here the average revenue curve is downward sloping and the marginal revenue curve is below the average revenue curve. The equilibrium position is when the marginal revenue curve is equal to marginal cost curve. The company will produce output till marginal revenue curve exceeds marginal cost. Economic efficiency of monopoly and perfect competition Perfect competition is a market structure that achieves resource allocation efficiently. This efficiency results due to production of profit maximizing quantity. Economic efficiency is gained by perfectly competitive market due to equality between marginal cost and price. Price indicates the amount a buyer is ready to pay enhancing satisfaction level of production and consumption of goods. Marginal cost states satisfaction foregone from goods production. Marginal cost is high of production when it generates higher levels of satisfaction. Perfect competition is basically a market structure that is supposedly dominated by other firms. The nature of perfect competition has been represented in figure7. Figure 7: Perfect Competition (Samuelson and Marks, 2005) As per figure 7, perfect competition is allocative efficient since price is equal to marginal cost. Productive efficiency is also observed within perfect competition because firm’s production is at lowest possible point on AC (Samuelson and Marks, 2005). Products are homogeneous so resources shall not be wasted in context of advertising. A monopolist is likely to be in a better state in context of exploring economies of scale. This eventually leads to lower prices and higher output under certain competitive conditions. Pure monopoly condition has been highlighted in figure3. Figure 8: Pure Monopoly (Frank, 2008) On basis of figure8, it can be stated that monopolists usually obtain abnormal profits on loss of efficiency levels. Monopoly condition is totally different from market structure of perfect competition. Monopoly price is basically stated as higher in relation to average and marginal costs. This eventually leads to market failure and loss of allocative efficiency. Monopolists tend to quote a price that is much above production of goods (Frank, 2008). The needs or wants of customers remain unsatisfied since products been manufactured are under consumed. Production inefficiencies usually means firms are not making optimal usage of resources. This also results into high average costs and reduces efficiency level of production. Conclusion This study has outlined characteristics of different market structures such as perfect competition, monopoly, monopolistic competition and oligopoly. All these markets differ in their system of business operations and results into wide array of competition. Price and output are two elements on basis of which characteristics of market structures are properly analyzed. These market dimensions possess different parameters that help to determine competition in market place. It can be stated that perfect competition has higher economic efficiency in comparison to monopoly market structure. This is because prices charged in these markets differ and this eventually affects customer needs and wants. Allocative and productive efficiency are two aspects on basis of which economic efficiency of monopoly and perfect competition is thoroughly analyzed. References Dwivedi, (2009). Principles Of Economics, 2E. Noida: Vikas Publishing House Pvt Ltd. Dwivedi, D., (2002). Microeconomics: Theory And Applications. New Delhi: Pearson Education India Frank, R. H. (2008). Microeconomics and behavior. UK: McGraw-Hill. McChesney, F. (2008). Concise encyclopedia of economics. Indianapolis: Library of Economics and Liberty. McEachern, W. (2011). Economics: A Contemporary Introduction. Mason: Cengage Learning. Samuelson, W. F. and Marks, S. G. (2005). Managerial economics. New Jersey: Wiley. Read More