Question

Write a one to two page paper, addressing the following:

a. Describe in your own words the concept of market power.

b. Provide an example of a firm exercising its market power.Referring to your example above, answer the following questions:

1. • What are the sources of the firm's market power?
   • Can they be sustained over a short run / long run?

c. Answer the question below in your conclusion:

• Why is it hard for a firm to maintain market power over a Long Run?

Answer 1

Concept of Market power :-

The market power on monopoly refers to the ability of a firm to raise and maintain price above the level that would prevail under competition . market power is not considered to be productive because it leads to distortion in the market making it less efficient . A company with substantial market power has the ability to manipulate the market price and thereby control its profit margin and increase obstacles to potential New entrant into the market. Firms that have market power are known as price makers because they can establish or adjust the price of an item without relinquishing market share.

Example of market power :-

The Monopoly market has features of barriers to entry and product differentiation which lead it to maintain supernormal profit in short run. The firms and the Monopoly market maximizes their profits by selling the quantity where the marginal cost is equal to marginal revenue however the price is above the average total cost leading to the supernormal profits in the market.

In the above figure, it is very evident that the company is selling the output QS where the the marginal cost curve intersects the marginal revenue curve however the price charged unlike of a perfect competition market , is much above the average total cost which leads to supernormal profit in short run As given in the shaded area in the above figure.

Sources of firms market power :-

Following are the sources of monopoly power :-

1) barriers to entry :-

The larger and more expensive the barriers to entry, the greater the Monopoly power .

2) number of competitors :-

The smaller the number of competitors in the market, the greater the Monopoly power .

3) advertising:-

The greater the advertising expenditure and more recognisable the brand name, the greater the Monopoly power.

4) degree of product differentiation :-

The larger the degree of product differentiation, the greater the extent of monopoly power.

Short term and Long term sustainence of market power :-

Generally the firm which has exclusive licensing all barriers to entry is able to make short term and long term market power of supernormal profits however in long run this licensing requirements and barriers to entry regulations change leading to of monopoly for the firm which is explained below.

Why it is difficult for a firm to maintain market power in long run :-

It is difficult to maintain Monopoly in long run as when most firms is that a certain market is earning supernormal profit coma they somehow try to enter and increase the competition which leads to the elimination of abnormal profit and naturally forces the firm to lower its price and start earning normal profits.

When more and more firms enter the market the monopolist firm which was earlier charging high prices much above the average total cost is forced to lower down its price in order to retain his market share of customers as the new entrants will definitely keep their prices lower than that of the monopolist form in order to capture new customers . Even when the firm lower downs its price, there is a possibility that still there is a chance of supernormal profit due to high demand and less number of product availability. This will again lead to new potential entrants in the market and this process will continue until the price level reaches a point where it touches the average total cost curve leading the monopolist form to earn normal profits in long run .

If the price level goes below the average total cost curve, then the firms will start to on supernormal losses and will exit the market in long run.