Question

Primarily, our discussions have been focused on the supply side of the basic economic model of supply and demand. We examined numerous models dealing with the matters of demand. This question is focused on the issues of supply. There are four basic industry formations: perfect competition, monopolistic competition, oligopoly and monopoly. Each is a gradation of a number of factors, but primarily it is about the ability of an individual firm to control the environment in which it operates. The topic of this question is very simple. Please ‘line up’ each of the industries, and provide me with your list of those characteristics of each that are the same, and those that are different. You should list them if they are similarities between one or two industries, and if they are dissimilar across one or two industries as well. Please remember that similarities of the decision making that takes place in a firm in each industry, and identify which are similar and which are dissimilar, and why. You should be concerned with the long run and the short run when considering your answers. You will note, I’m sure that it is important to identify for each of the industry formations, what the short run and the long

Answer 1

Perfect competition/contestable market is price taker and has similar and identical goods and is easy to enter and easy to exit. Example-vegetable sellers in tghe market.

Perfect competition has normal profits in the long run as entry and exit is difficult. It also ensures allocative and productive efficiency. In the short run firm may have loss if price charged is below average total cost. However a firm which has price below average variable cost shuts down.

Pricing policies and likely effects in perfect competition:

If price > minimum Average total cost then firm is fine and enjoys abnormal profits.

If price = minimum Average total cost then firm is fine and enjoys normal profits.

If price < minimum Average variable cost < average variable cost then firm is making loss but continues as variable costs are covered.

If Price < average variable cost then firm shuts down.

Social welfare is achieved when. productive and allocative efficiencies are achieved. It only happens in perfect competition.

Imperfect markets like monopoly, oligopoly and monopolistic markets find it moderately or extremely difficult to enter and exit. These are the markets where firms are price makers and can determine own prices.

A monopolistic market is a market where there are many sellers. Each seller claims to have a differentiated product. Eg. car sellers.

Monopolistic competition also has normal profits in the long run. This happens due to entry and exit of firms. If any firm makes abnormal profits then other firm enter and decrease the price charged and get normal profits. Also when firms make loss then a few firms will exit and as supply goes down, prices will start going up and in the long run only normal profit is made.

In oligopoly products are similar but not identical. They can come together and form a collusion. Then they become a monopoly.

In monopoly one firm dominates the market. Example- Debeers diamond comapny in diamond marketing.

In this markets entry and exit is moderately difficult as each company has created a kind of market for their own products. Unlike perfect competition they are price makers and may charge own price. Allocative and productive efficiency is not possible in these imperct markets and monopoly may enjoy abnormal profits.

Oligopoly gets stuck in price wars more oftern. Example- Telecom companies.