Perfect Competition (PC):
- Many small firms
- Homogeneous goods (identical goods)
- Perfect knowledge
- No barriers to entry
- Price taker
- Perfectly elastic demand (horizontal)
Short-run=abnormal profit, which is eroded away because of entry of new firms whch increases supply, lowers price and erodes abnormal profit. So PC earns normal profit in long-run.
Operates at allocative efficiency (AR = MC).
Same as PC but produces slightly differentiated goods. So, demand relatively elastic (downward sloping).
Short-run = abnormal profit.
Long-run = AC is tangential to AR curve.
May be amny firms but only few firms dominate the market.
- High concentration ratio (size of firm in relation to industry)
- High barriers to entry.exit
- Non-price competition (price competition causes price war)
- Price rigidity (shown through kinked demand curve)
- Collusion (agreements between firms which restricts competition).
Legal = firm with at least 25% market share.
Pure = firm with 100% market share.
- Only firm in industry
- High barriers to entry (sunk, capital costs, legal, economies of scale).
- Imperfect knowledge
- Unique goods
- Price discriminates (charges diff prices to diff consumers for same good).
+ R&D, econ of scale, cross-subsidise, creative destruction (incentive for new firms to enter market with better innovated goods), global competition.
- Productively & Allocatively INefficient, X-inefficiency, consumer welfare decreases.
Market structure that is only able to support one firm in the industry; only profitable to have one firm in industry. Eg: water, gas, utility.
Where sunk costs are so high that AC is always falling.
So MC and AC curve are falling with MC below AC.
Produces at MC=MR. But as only one firm in industry, govt will want natural monopoly firm to operate at allocative efficiency (AE, where AR=MC) as supply of goods needs to match consumer demand.
- Price regulated to prevent exploitation of consumer (RPI-X and RPI+K).
- have MARKET POWER
- be able to SEPERATE THE MARKET
- buyers must have DIFF PEDs.
- PREVENT RESALE of the good.
+ Firm earns higher supernormal profit.
+ Some consumers with elastic demand will receive lower price.
- Consumers with inelastic demand receive higher prices.
- Difficult to meet all 4 conditions mentioned above.
Monopoly and Efficiency
Monopoly and Efficiency:
- Monopolies operate at profit max MC=MR.
- Less output and higher prices in monopoly than perfect competition.
- May be productively inefficient due to X-inefficiencies when costs are too high. This may occur due to lack of competition so less incentive to cut costs as they already benefit from econ of scale.
- Allocatively inefficient as prices are too high and low output, so too high a demand and too low supply.
- But, monopoly is dynamically efficient (efficieny that occurs over a period of time), due to high supernormal profits which can be used to invest in R&D (research & development) to create innovative products. Thus, this may increase consumer welfare as innovation can provide more choice to consumers.
- Prevents abuse of monopoly power (as monopolies have the power to set prices above MC, allocatively inefficient) and creates an allocatively efficient firm.
- - But, limiting prices limits profits so less can be spent on R&D. This can decrease dynamic efficiency.
- - There is a problem of assymetric info where the regulator/govt has insufficient data or info to base the price cap on. Eg: prices could be set which are too high/too low.