Question

Please state two reasons why firms’ market power can reduce consumer welfare and two reasons why firms’ market power can have benefits for consumers. Thank you

Answer 1

Market power is the ability to charge a price higher than the marginal cost. Perfectly competitive markets have no scope for market power for any particular firm because the ability to charge a price greater than the marginal cost is impeded by the number of firms and the nature of the product being identical.

In case of imperfect markets, this ability is restored in due to this reason there is a reduction in the consumer surplus which is the measure of consumer welfare. Consumers are forced to pay relatively higher price and buy a relatively lower quantity than what they experience in perfectly competitive markets. So the two reasons increased price and reduced quantity

this can also benefit consumers in the sense that there is a definite incentive for innovation when firms have a large markup over cost. Consumers continuously receive innovative and differentiated products. At the same time there is an improvement in the quality because of the brand image that the Imperfectly competitive sellers create for themselves. The benefits are innovation in products and improvement in quality.