Question

Identify a monopolistically competitive firm, monopolies, and oligopoly that you have purchased a good or service from in the last month. Please relate your answer to the market characteristics. Analyze the long run implications of these firms being able to make long run profits. What are some of the challenges that firms in each of these market structures will face?

Answer 1

MONOPOLY MARKET PRODUCT:
Water supplier - Aqua America Inc.
A monopoly, as a theoretical economic construct, prevails when barriers to entry exist because one firm can operate at a lower marginal cost than its competitors. The barriers can be legal or regulatory, economic, or geographic.

Absent competitors, the monopoly firm can raise prices, restrict output and hurt consumers. Typical monopoly markets operate with exclusive licensure, anti-competitive subsidization and/or tariff protection. These include public utilities and TV rights.
Until 20th century deregulation, the markets for oil and trucking, for example, operated with monopoly privilege.

American economist Milton Friedman studied natural monopolies and only found two possible examples that might have persisted without special government privilege: the New York Stock Exchange from the 1870's until 1934, and the De Beers diamond mining company. Even those, he said, were questionable examples. De Beers' share of the diamond market later fell from 90% in 1980 to just 33% in 2013 through international competition.
Most monopolies can only hold lower marginal costs through government protection. In this way, marginal costs for monopolies can be reduced through subsidies or through costly restrictions imposed on possible competitors to raise their marginal costs. Competition can also be explicitly restricted through licenses and intellectual property.

OLIGOPOLY MARKET PRODUCT:
Pepsi Soft Drink
The term oligopoly is derived from two Greek words: ‘oligi’ means few and ‘polein’ means to sell. Oligopoly is a market structure in which there are only a few sellers (but more than two) of the homogeneous or differentiated products. So, oligopoly lies in between monopolistic competition and monopoly.
Oligopoly refers to a market situation in which there are a few firms selling homogeneous or differentiated products. Oligopoly is, sometimes, also known as ‘competition among the few’ as there are few sellers in the market and every seller influences and is influenced by the behaviour of other firms.
Types of Oligopoly:

Pure or Perfect Oligopoly:If the firms produce homogeneous products, then it is called pure or perfect oligopoly. Though, it is rare to find pure oligopoly situation, yet, cement, steel, aluminum and chemicals producing industries approach pure oligopoly.

2. Imperfect or Differentiated Oligopoly:

If the firms produce differentiated products, then it is called differentiated or imperfect oligopoly. For example, passenger cars, cigarettes or soft drinks. The goods produced by different firms have their own distinguishing characteristics, yet all of them are close substitutes of each other.

3. Collusive Oligopoly:

If the firms cooperate with each other in determining price or output or both, it is called collusive oligopoly or cooperative oligopoly.

4. Non-collusive Oligopoly:

If firms in an oligopoly market compete with each other, it is called a non-collusive or non-cooperative oligopoly.

Features of Oligopoly:

The main features of oligopoly are as follows:

1. Few firms:

• Under oligopoly, there are few large firms. The exact number of firms is not defined. Each firm produces a significant portion of the total output. There exists severe competition among different firms and each firm try to manipulate both prices and volume of production to outsmart each other. For example, the market for automobiles in India is an oligopolist structure as there are only few producers of automobiles.
• The number of the firms is so small that an action by any one firm is likely to affect the rival firms. So, every firm keeps a close watch on the activities of rival firms.

2. Interdependence:

Firms under oligopoly are interdependent. Interdependence means that actions of one firm affect the actions of other firms. A firm considers the action and reaction of the rival firms while determining its price and output levels. A change in output or price by one firm evokes reaction from other firms operating in the market.

For example, market for cars in India is dominated by few firms (Maruti, Tata, Hyundai, Ford, Honda, etc.). A change by any one firm (say, Tata) in any of its vehicle (say, Indica) will induce other firms (say, Maruti, Hyundai, etc.) to make changes in their respective vehicles.

3. Non-Price Competition:

1. Under oligopoly, firms are in a position to influence the prices. However, they try to avoid price competition for the fear of price war. They follow the policy of price rigidity. Price rigidity refers to a situation in which price tends to stay fixed irrespective of changes in demand and supply conditions. Firms use other methods like advertising, better services to customers, etc. to compete with each other.
2. If a firm tries to reduce the price, the rivals will also react by reducing their prices. However, if it tries to raise the price, other firms might not do so. It will lead to loss of customers for the firm, which intended to raise the price. So, firms prefer non- price competition instead of price competition.

4. Barriers to Entry of Firms:
The main reason for few firms under oligopoly is the barriers, which prevent entry of new firms into the industry. Patents, requirement of large capital, control over crucial raw materials, etc, are some of the reasons, which prevent new firms from entering into industry. Only those firms enter into the industry which is able to cross these barriers. As a result, firms can earn abnormal profits in the long run.
5. Role of Selling Costs:

• Due to severe competition ‘and interdependence of the firms, various sales promotion techniques are used to promote sales of the product. Advertisement is in full swing under oligopoly, and many a times advertisement can become a matter of life-and-death. A firm under oligopoly relies more on non-price competition.
• Selling costs are more important under oligopoly than under monopolistic competition.

6. Group Behaviour:
Under oligopoly, there is complete interdependence among different firms. So, price and output decisions of a particular firm directly influence the competing firms. Instead of independent price and output strategy, oligopoly firms prefer group decisions that will protect the interest of all the firms. Group Behaviour means that firms tend to behave as if they were a single firm even though individually they retain their independence.
7. Nature of the Product:

• The firms under oligopoly may produce homogeneous or differentiated product.
• i. If the firms produce a homogeneous product, like cement or steel, the industry is called a pure or perfect oligopoly.
• ii. If the firms produce a differentiated product, like automobiles, the industry is called differentiated or imperfect oligopoly.

8. Indeterminate Demand Curve:
Under oligopoly, the exact behaviour pattern of a producer cannot be determined with certainty. So, demand curve faced by an oligopolist is indeterminate (uncertain). As firms are inter-dependent, a firm cannot ignore the reaction of the rival firms. Any change in price by one firm may lead to change in prices by the competing firms. So, demand curve keeps on shifting and it is not definite, rather it is indeterminate.
MONOPOLISTICALLY COMPETITIVE MARKET PRODUCT:

• Dove Bathing Soap
• Monopolistic competition strikes a middle ground between competition and monopoly, i.e., it contains elements of both monopoly and perfect competition, and, as such, a market under monopolistic competition possesses the following characteristic features:
• 1. In the market (like that under competition), there should be a large number of buyers and sellers of the good concerned.
• 2. The sellers sell differentiated, but close-substitute, products. There may be differences between the products in respect of quality—these are real differences, or there may be differences in packaging materials or design, brand name, etc.—these are often spurious differences.
• In any case, this should be noted that when products are differentiated, each product is unique and its producer has some degree of monopoly power, although this power is usually very small. Because, other producers can always market closely related goods. That is why the selling price of cigarettes is almost uniform from brand to brand.
• 3. In the market under monopolistic competition, if the producer of a commodity raises its price even by a small proportion, the number of buyers and the demand for the good would fall drastically, since there are so many close-substitute rival products, but the demand would not fall to zero (as it does under perfect competition) because the product is different, in some way, from the other products and would be able to attract at least a few customers even at the higher price.
• That is why the demand curve for each firm under monopolistic competition would be a very flat, highly elastic downward sloping curve (but it would not be a horizontal straight line as under perfect competition).
• 4. Since the demand curve or the AR curve of a firm under monopolistic competition is downward sloping towards right, its MR curve would also be downward sloping, and at any q > 0, the MR curve would lie below the AR curve. That is why, here also, as under monopoly, the firm is a price-maker and p > MR.
• 5. In the market under monopolistic competition, the firms sell a large number of close-substitute products. That is why, here the firms are required to undertake advertisement expen­ditures for campaigning for their products.
• It may be noted here that advertisement does not feature in monopoly, since the pure monopolist is the only producer and seller of his product, nor does it feature in perfect competition because the competitive firms produce a homogene­ous commodity and there is perfect knowledge of this among the buyers.
• 6. The close-substitute products in a market under monopolistic competition are together called the product-group. The product of each firm is a ‘unique’ product of this group.
• 7. In the market under monopolistic competition, very much like the perfectly competi­tive market, new firms may enter the industry in the long run if the existing firms happen to earn more than normal profit in the short run.
• On the other hand, the existing firms may leave the industry in the long run if they are unable to earn pure profit in the short run and even in the long run. Owing to this feature of free entry and free exit, each firm under monopolistic com­petition (like that under perfect competition) can earn only normal profit in the long run.
• 8. In a market under monopolistic competition, the number of producers of each separate product is only one. That is why this market possesses an important feature of monopoly. Again, this market possesses many features of a competitive market.
• Market structure best suited for selling products is Oligopoly because Oligopoly has many characteristics that permit technological advantage. First of all, large size of oligopolists often helps them to finance R&D process associated with product innovation. Often oligopolists realize economic profit, a part of which is saved. This retained-funding serves as a major source of available and relatively low-cost R&D. In addition, barriers to entry give assurance that firms will be able to maintain economic profits that these firm gains from innovation. Large volume of sales of oligopolists enables them to spread the cost of R&D equipment and teams of specialized researches over larger quantity of output. Finally, R&D activity in oligopolistics firms helps them to compensate inevitable R&D misses with R&D hits. That’s why oligopolists clearly have great incentive to innovate.
• Maret structure best suited for buying of products is a Monopolistic Competitive market because it is the one in which there are many buyers, and many sellers of a homogenous good; there are no barriers to entry; and firms have no market power.