Question

Competitive Markets:

The high end bicycle market is made up of two types of firms.

On the one hand, there are several small boutique builders, who specialize in making frames from exotic materials (titanium, carbon, alloy, metal matrix, etc), and then specking the bikes with high end components. Many of these firms also custom build the frame to the buyers physical dimensions, and preferred riding style.

There are also some very large firms (Trek, Specialized, Giant, Cervelo) that make high end bikes using mass production techniques. A high end mass produced bike may sell at prices that are higher, lower, or the same as the smaller company’s bikes.

a. Briefly identify this type of market and explain how its possible for big firms and small firms to coexist.

b. Draw a typical boutique shop making an economic profit.

c. Explain how this market reaches a long run equilibrium and list the ways this long run equilibrium is different than perfect competition? Would perfect competition be better for the consumer in this case?

Answer 1

Solution A

Since there are many firms in market and entry barriers are low this is perfectly competitive market. Since no one player or few players dominate market it is not classified as monopoly or oligopoly where equal or high market share is observed. It is very possible for large and small firms to coexist because various preference and tastes of consumers depending on income groups where both large and small firms cater their respective demands.

Solution B

Typical boutique firm shall make economic profit only when opportunity cost of using different materials is low and when premium prices are charged for customisation which generates higher revenues and hence maximises economic profit.

Solution C

Firms can reach long run equilibrium only when prices stabilize and when both small and large firms agree to come to similar level of pricing . Perfect competition is always best in consumer interest because it abolishes any kind of monopolistic activity or high prices and thus product differentiation wnd quality with sustainable prices are given to consumers .