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INTRODUCTION
Price, the amount of goods for which a product is sold, may be seen as a financial
expression of the value of the product. Setting the right price is an important part
of effective marketing, being the only part of the marketing mix that generates
revenue, as product, promotion, and place are all about marketing costs. Price is
also the marketing variable that can be changed most quickly.
This report focuses on Natural Price, Market Price and the relationship between
them. It also discusses standard market forms – Monopoly, Oligopoly and Perfect
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Competition. In economics Natural price is the price for a good or service that is
equal to the cost of production whereas market price is the economic price for
which a good or service is offered in the marketplace. It is of interest mainly in the
study of microeconomics. There are four basic types of market structures by
traditional economic analysis: perfect competition, monopolistic competition,
oligopoly and monopoly. A monopoly is a market structure in which a single
supplier produces and sells a given product. An oligopoly is a market dominated
by a few large suppliers. In economic theory, perfect competition describes
markets such that no participants are large enough to have the market to set the
price of a homogeneous product.
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2. NATURAL PRICE AND MARKET PRICE
When the price of any commodity is neither more nor less than what is sufficient
to pay the rent of the land, the wages of the labour, and the profits of the stock
employed in raising, preparing, and bringing it to market, according to their
natural rates, the commodity is then sold for what may be called its natural price.
The commodity is then sold precisely for what it is worth, or for what it really
costs the person who brings it to market. It does not comprehend the profit of the
person who is to sell it again, if he sells it at a price which does not allow him the
ordinary rate of profit in his neighbourhood, he is evidently a loser by the trade, as
by employing his stock in some other way he might have made that profit. His
profit, besides, is his revenue, the proper fund of his subsistence. As he is
preparing and bringing the goods to market, he advances to his workmen their
wages, or their subsistence; so he advances to himself, in the same manner, his
own subsistence, which is generally suitable to the profit which he may
reasonably expect from the sale of his goods. Unless they yield him this profit,
they do not repay him what they may have really cost him.
Though the price, therefore, which leaves him this profit, is not always the lowest
at which a dealer may sometimes sell his goods, it is the lowest at which he is
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likely to sell them for any considerable time, at least where there is perfect liberty,
or where he may change his trade as often as he pleases.
The natural price itself varies with the natural rate of each of its component parts,
of wages, profit, and rent; and in every society this rate varies according to their
circumstances, according to their riches or poverty, their advancing, stationary, or
declining condition.
The natural price of labour is that price which is necessary to enable the labourers,
to subsist and to perpetuate their race.The power of the labourer to support
himself, and the family which may be necessary to keep up the number of
labourers, does not depend on the quantity of money which he may receive for
wages, but on the quantity of food, necessaries, and conveniences become
essential to him from habit, which that money will purchase. The natural price of
labour, therefore, depends on the price of the food, necessaries, and conveniences
required for the support of the labourer and his family. With a rise in the price of
food and necessaries, the natural price of labour will rise, with the fall in their
price, the natural price of labour will fall.
With the progress of society the natural price of labour has always a tendency to
rise, because one of the principal commodities by which its natural price is
regulated, has a tendency to become dearer, from the greater difficulty of
producing it. However, the improvements in agriculture, the discovery of new
markets, may for a time counteract the tendency to a rise in the price of
necessaries, and may even occasion their natural price to fall, so will the same
causes produce the correspondent effects on the natural price of labour.
The natural price of all commodities, except raw produce and labour, has a
tendency to fall, in the progress of wealth and population. Though, on one hand,
they are enhanced in real value, from the rise in the natural price of the raw
material of which they are made, this is more than counterbalanced by the
improvements in machinery, by the better division and distribution of labour, and
by the increasing skill, both in science and art of the producers.
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2.2. MARKET PRICE
The actual price at which any commodity is commonly sold is called its
Market price. It may either be above, or below, or exactly the same with its
natural price. The market price of every particular commodity is regulated by the
proportion between the quantity which is actually brought to market, and the
demand of those who are willing to pay the natural price of the commodity, or the
whole value of the rent, labour, and profit, which must be paid in order to bring it
to market. Such people may be called the effectual demanders, and their demand
the effectual demand, since it may be sufficient to effectuate the bringing of the
commodity to market. It is different from the absolute demand. A very poor man
may be said in some sense to have a demand for a coach and six, he might like to
have it, but his demand is not an effectual demand, as the commodity can never be
brought to market in order to satisfy it.
When the quantity of any commodity which is brought to market falls short of the
effectual demand, all those who are willing to pay the whole value of the rent,
wages, and profit, which must be paid in order to bring it , cannot be supplied with
the quantity which they want. Rather than want it altogether, some of them will be
willing to give more. A competition will immediately begin among them, and the
market price will rise more or less above the natural price, according as either the
greatness of the deficiency. The wealth and want on luxury of the competitors
happen to animate more or less the eagerness of the competition. Among
competitors of equal wealth and luxury the same deficiency will generally
occasion a more or less eager competition, according as the acquisition of the
commodity happens to be of more or less importance to them.
When the quantity brought to market exceeds the effectual demand, it cannot be
all sold to those who are willing to pay the whole value of the rent, wages, and
profit, which must be paid in order to bring it. Some part must be sold to those
who are willing to pay less, and the low price which they give for it must reduce
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the price of the whole. The market price will sink more or less below the natural
price, according as the greatness of the excess increases more or less the
competition of the sellers, or according as it happens to be more or less important
to them to get immediately rid of the commodity.
The market price of labour is the price which is really paid for it, from the natural
operation of the proportion of the supply to the demand; labour is dear when it is
scarce, and cheap when it is plentiful. However much the market price of labour
may deviate from its natural price, it has, like commodities, a tendency to conform
to it.
MARKET PRICE
The quantity of every commodity brought to market naturally suits itself to the
effectual demand. It is the interest of all those who employ their land, labour, or
stock, in bringing any commodity to market, that the quantity never should exceed
the effectual demand and it is the interest of all other people that it never should
fall short of that demand. If at any time it exceeds the effectual demand, some of
the component parts of its price must be paid below their natural rate. If it is rent,
the interest of the landlords will immediately prompt them to withdraw a part of
their land and if it is wages or profit, the interest of the labourers in the one case,
and of their employers in the other, will prompt them to withdraw a part of their
labour or stock from this employment. The quantity brought to market will soon
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be no more than sufficient to supply the effectual demand. All the different parts
of its price will rise to their natural rate, and the whole price to its natural price.
If, on the contrary, the quantity brought to market should at any time fall short of
the effectual demand, some of the component parts of its price must rise above
their natural rate. If it is rent, the interest of all other landlords will naturally
prompt them to prepare more land for the raising of this commodity, if it is wages
or profit, the interest of all other labourers and dealers will soon prompt them to
employ more labour and stock in preparing and bringing it to market. The quantity
brought will soon be sufficient to supply the effectual demand. All the different
parts of its price will soon sink to their natural rate, and the whole price to its
natural price.
When the market price of labour exceeds its natural price, that the condition of the
labourer is flourishing and happy, that he has it in his power to command a greater
proportion of the necessaries and enjoyments of life, and therefore to rear a
healthy and numerous family. When, however, by the encouragement with high
wages give to the increase of population, the number of labourers is increased,
wages again fall to their natural price, and indeed from a reaction sometimes fall
below it. When the market price of labour is below its natural price, the condition
of the labourers is most wretched. Poverty deprives them of those comforts which
custom renders absolute necessaries. It is only after their privations have reduced
their number, or the demand for labour has increased, that the market price of
labour will rise to its natural price, and that the labourer will have the moderate
comforts which the natural rate of wages will afford.
The natural price therefore, is the central price, to which the prices of all
commodities are continually gravitating. Different accidents may sometimes keep
them suspended a good deal above it, and sometimes force them down even
somewhat below it. But whatever may be the obstacles which hinder them from
settling in this centre of repose and continuance, they are constantly tending
towards it.
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3. STANDARD MARKET FORMS
Sometimes, there are many sellers in an industry and/or there exist many close
substitutes for the goods being produced, but nevertheless companies retain some
market power. This is termed monopolistic competition, whereas by oligopoly the
companies interact strategically.
Economists assume that there are a number of different buyers and sellers in the
marketplace. This means that we have competition in the market, which allows
price to change in response to changes in supply and demand. For almost every
product there are substitutes, so if one product becomes too expensive, a buyer
can choose a cheaper substitute instead. In a market with many buyers and sellers,
both the consumer and the supplier have equal ability to influence price.
In some industries, there are no substitutes and there is no competition. In a
market that has only one or few suppliers of a good or service, the producer(s) can
control price, meaning that a consumer does not have choice, cannot maximize his
or her total utility and has have very little influence over the price of goods.
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government has sole control over the oil industry. A monopoly may also form
when a company has a copyright or patent that prevents others from entering the
market. Pfizer, for instance, had a patent on Viagra.
In an oligopoly, there are only a few firms that make up an industry. This select
group of firms has control over the price and like a monopoly, an oligopoly has
high barriers to entry. The products that the oligopolistic firms produce are
often nearly identical and therefore the companies which are competing for
market share are interdependent as a result of market forces.
There are two extreme forms of market structure: monopoly and, its
opposite, perfect competition. Perfect competition is characterized by many
buyers and sellers, many products that are similar in nature and, as a result, many
substitutes. Perfect competition means there are few, if any, barriers to entry for
new companies, and prices are determined by supply and demand. Thus,
producers in a perfectly competitive market are subject to the prices determined
by the market and do not have any leverage. For example, in a perfectly
competitive market, should a single firm decide to increase its selling price of a
good, the consumers can just turn to the nearest competitor for a better price,
causing any firm that increases its prices to lose market share and profits.
3.1. Monopoly
A monopoly exists when a specific person or enterprise is the only supplier
of a particular commodity. Monopolies are thus characterized by a lack of
economic competition to produce the good or service and a lack of
viable substitute goods. The verb "monopolize" refers to the process by which a
company gains the ability to raise prices or exclude competitors. In economics, a
monopoly is a single seller. In law, a monopoly is a business entity that has
significant market power, that is, the power, to charge high prices. Although
monopolies may be big businesses, size is not a characteristic of a monopoly. A
small business may still have the power to raise prices in a small industry (or
market).
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A monopoly is distinguished from a monopsony, in which there is only
one buyer of a product or service; a monopoly may also have monopsony control
of a sector of a market. Likewise, a monopoly should be distinguished from
a cartel (a form of oligopoly), in which several providers act together to
coordinate services, prices or sale of goods. Monopolies, monopsonies and
oligopolies are all situations such that one or a few of the entities have market
power and therefore interact with their customers (monopoly), suppliers
(monopsony) and the other companies (oligopoly) in ways that leave market
interactions distorted.
Characteristics of monopoly
High Barriers to Entry: Other sellers are unable to enter the market of the
monopoly.
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Single seller: In a monopoly, there is one seller of the good that produces all
the output. Therefore, the whole market is being served by a single company.
Price Discrimination: A monopolist can change the price and quality of the
product. He sells more quantities charging fewer prices for the product in a
very elastic market and sells less quantities charging high price in a less
elastic market.
Formation of monopolies
II. Governments may grant a firm monopoly status, such as with the Post
Office, which was given monopoly status by Oliver Cromwell in 1654.
The Royal Mail Group finally lost its monopoly status in 2006, when the
market was opened up to competition.
III. Producers may have patents over designs, or copyright over ideas,
characters, images, sounds or names, giving them exclusive rights to sell a
good or service, such as a song writer having a monopoly over their own
material.
IV. A monopoly could be created following the merger of two or more firms.
Given that this will reduce competition, such mergers are subject to close
regulation and may be prevented if the two firms gain a combined market
share of 25% or more.
Monopolies derive their market power from barriers to entry – circumstances that
prevent or greatly impede a potential competitor's ability to compete in a market.
There are three major types of barriers to entry; economic, legal and deliberate.
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Economic barriers: Economic barriers include economies of scale, capital
requirements, cost advantages and technological superiority.
Network externalities: The use of a product by a person can affect the value
of that product to other people. This is the network effect. There is a direct
relationship between the proportion of people using a product and the demand
for that product. In other words the more people who are using a product the
greater the probability of any individual starting to use the product. This effect
accounts for fads and fashion trends. It also can play a crucial role in the
development or acquisition of market power. The most famous current
example is the market dominance of the Microsoft operating system in
personal computers.
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Legal barriers: Legal rights can provide opportunity to monopolise the
market of a good. Intellectual property rights, including patents and
copyrights, give a monopolist exclusive control of the production and selling
of certain goods.
Types of monopolies
I. Natural monopoly
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the market by law, regulation, or other mechanisms of government
enforcement.
In such, market price and output will be determined by forces like bargaining
power of both buyer and seller.
According to the standard model, in which a monopolist sets a single price for all
consumers, the monopolist will sell a lesser quantity of goods at a higher price
than would companies by perfect competition. Because the monopolist ultimately
forgoes transactions with consumers who value the product or service more than
its cost, monopoly pricing creates a deadweight loss referring to potential gains
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that went neither to the monopolist nor to consumers. Given the presence of this
deadweight loss, the combined surplus (or wealth) for the monopolist and
consumers is necessarily less than the total surplus obtained by consumers by
perfect competition. Where efficiency is defined by the total gains from trade, the
monopoly setting is less efficient than perfect competition.
It is often argued that monopolies tend to become less efficient and less innovative
over time, becoming "complacent", because they do not have to be efficient or
innovative to compete in the marketplace. Sometimes this very loss of
psychological efficiency can increase a potential competitor's value enough to
overcome market entry barriers, or provide incentive for research and investment
into new alternatives.
Examples of monopolies
Global
Western Union was criticized as a "price gouging" monopoly in the late 19th
century.
Microsoft; settled anti-trust litigation in the U.S. in 2001; fined 493 million
euros by the European Commission in 2004 which was upheld for the most
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part by the Court of First Instance of the European Communities in 2007. The
fine was 1.35 Billion USD in 2008 for noncompliance with the 2004 rule.
Indian
ADVANTAGES OF MONOPOLIES
I. They can benefit from economies of scale, and may be ‘natural’ monopolies,
so it may be argued that it is best for them to remain monopolies to avoid the
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wasteful duplication of infrastructure that would happen if new firms were
encouraged to build their own infrastructure.
II. Domestic monopolies can become dominant in their own territory and then
penetrate overseas markets, earning a country valuable export revenues. This
is certainly the case with Microsoft.
III. It has been consistently argued by some economists that monopoly power is
required to generate dynamic efficiency, that is, technological progressiveness.
This is because:
V. Innovation is more likely with large enterprises and this innovation can lead to
lower costs than in competitive markets.
VI. A firm needs a dominant position to bear the risks associated with innovation.
VIII. If some of the profits are invested in new technology, costs are reduced via
process innovation. The result is lower price and higher output in the long run.
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MONOPOLY VERSUS COMPETITIVE MARKETS
Barriers to Entry: Barriers to entry are factors and circumstances that prevent
entry into market by would-be competitors and limit new companies from
operating and expanding within the market. PC markets have free entry and
exit. There are no barriers to entry, exit or competition. Monopolies have
relatively high barriers to entry. The barriers must be strong enough to prevent
or discourage any potential competitor from entering the market.
Excess Profits: Excess or positive profits are profit more than the normal
expected return on investment. A PC company can make excess profits in the
short term but excess profits attract competitors, which can enter the market
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freely and decrease prices, eventually reducing excess profits to zero. A
monopoly can preserve excess profits because barriers to entry prevent
competitors from entering the market.
3.2. OLIGOPOLY
An oligopoly is a market dominated by a few large suppliers. The degree
of market concentration is very high (i.e. a large % of the market is taken up by
the leading firms). Firms within an oligopoly produce branded products
(advertising and marketing is an important feature of competition within such
markets) and there are also barriers to entry.
Economics is much like a game in which the players anticipate one another's
moves. Game theory may be applied in situations in which decision makers must
take into account the reasoning of other decision makers. It has been used, for
example, to determine the formation of political coalitions or business
conglomerates, the optimum price at which to sell products or services, the best
site for a manufacturing plant, and even the behaviour of certain species in the
struggle for survival.
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The on-going interdependence between businesses can lead to implicit and
explicit collusion between the major firms in the market. Collusion occurs when
businesses agree to act as if they were in a monopoly position.
CHARACTERISTICS
Ability to set price: Oligopolies are price setters rather than price takers.
Entry and exit: Barriers to entry are high. The most important barriers are
economies of scale, patents, access to expensive and complex technology, and
strategic actions by incumbent firms designed to discourage or destroy nascent
firms. Additional sources of barriers to entry often result from government
regulation favouring existing firms making it difficult for new firms to enter
the market.
Number of firms: "Few" – a "handful" of sellers. There are so few firms that
the actions of one firm can influence the actions of the other firms.
Long run profits: Oligopolies can retain long run abnormal profits. High
barriers of entry prevent side-line firms from entering market to capture excess
profits.
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competing firms will be aware of a firm's market actions and will respond
appropriately. This means that in contemplating a market action, a firm must
take into consideration the possible reactions of all competing firms and the
firm's countermoves. It is very much like a game of chess or pool in which a
player must anticipate a whole sequence of moves and countermoves in
determining how to achieve his or her objectives. For example, an oligopoly
considering a price reduction may wish to estimate the likelihood that
competing firms would also lower their prices and possibly trigger a ruinous
price war. Or if the firm is considering a price increase, it may want to know
whether other firms will also increase prices or hold existing prices constant.
This high degree of interdependence and need to be aware of what other firms
are doing or might do is to be contrasted with lack of interdependence in other
market structures. In a perfectly competitive (PC) market there is zero
interdependence because no firm is large enough to affect market price. All
firms in a PC market are price takers, as current market selling price can be
followed predictably to maximize short-term profits. In a monopoly, there are
no competitors to be concerned about. In a monopolistically-competitive
market, each firm's effects on market conditions are so negligible as to be
safely ignored by competitors.
MODELING
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Key Features of Oligopoly
I. Oligopoly firms collaborate to charge the monopoly price and get monopoly
profits
II. Oligopoly firms compete on price so that price and profits will be the same as
a competitive industry
III. Oligopoly price and profits will be between the monopoly and competitive
ends of the scale
IV. Oligopoly prices and profits are "indeterminate" because of the difficulties in
modelling interdependent price and output decisions
Firms compete for market share and the demand from consumers in lots of ways.
We make an important distinction between price competition and non-price
competition. Price competition can involve discounting the price of a product (or a
range of products) to increase demand.
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Banking and other Financial Services (including travel insurance)
In-store chemists / post offices / crèches
Home delivery systems
Discounted petrol at hyper-markets
Extension of opening hours (24 hour shopping in many stores)
Innovative use of technology for shoppers including self-scanning
machines
Financial incentives to shop at off-peak times
Internet shopping for customers
When one firm has a dominant position in the market the oligopoly may
experience price leadership. The firms with lower market shares may simply
follow the pricing changes prompted by the dominant firms. We see examples of
this with the major mortgage lenders and petrol retailers.
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COMPARISON CHART
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CHARACTERISTICS
Monopolistic markets are controlled by one seller only. The seller here has the
power to influence market prices and decisions. Consumers have limited
choices and have to choose from what is supplied. The monopolist asserts all the
power while the consumer is left with no choice. This market condition usually
arises from mergers, take-overs and acquisitions.
Oligopoly, on the other hand, is a market condition where numerous sellers co-
exist in the market place. This market situation is very consumer-friendly because
it induces competition amongst sellers. Competition in turn ensures moderate
prices and numerous choices for consumers. A decision taken by one seller in an
oligopolistic market has a direct effect on the functioning of other sellers.
SOURCES OF POWER
Though an oligopolistic market does not have any sources of power, it comes into
existence solely due to the accommodating nature of other sellers.
Prices
A monopolistic market may quote high prices. Since there is no other competitor
to fear from, the sellers will use their status of dominance and maximize their
profits.
Oligopoly markets on the other hand, ensure competitive hence fair prices for the
consumer.
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Examples
The spectrum of competition ranges from highly competitive markets where there
are many sellers, each of whom has little or no control over the market price - to a
situation of pure monopoly where a market or an industry is dominated by one
single supplier who enjoys considerable discretion in setting prices, unless subject
to some form of direct regulation by the government.
In many sectors of the economy markets are best described by the term oligopoly -
where a few producers dominate the majority of the market and the industry is
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highly concentrated. In a duopoly two firms dominate the market although there
may be many smaller players in the industry.
Zero entry and exit barriers – A lack of entry and exit barriers makes it
extremely easy to enter or exit a perfectly competitive market.
Perfect factor mobility – In the long run factors of production are perfectly
mobile, allowing free long term adjustments to changing market conditions.
Zero transaction costs - Buyers and sellers do not incur costs in making an
exchange of goods in a perfectly competitive market.
Profit maximization - Firms are assumed to sell where marginal costs meet
marginal revenue, where the most profit is generated.
Property rights - Well defined property rights determine what may be sold,
as well as what rights are conferred on the buyer.
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In the short run, perfectly-competitive markets are not productively efficient as
output will not occur where marginal cost is equal to average cost (MC=AC).
They are allocatively efficient, as output will always occur where marginal cost is
equal to marginal revenue (MC=MR). In the long run, perfectly competitive
markets are both allocatively and productively efficient.
II. An identical output produced by each firm – in other words, the market
supplies homogeneous or standardised products that are perfect substitutes
for each other. Consumers perceive the products to be identical
III. Consumers have perfect information about the prices all sellers in the
market charge – so if some firms decide to charge a price higher than the
ruling market price, there will be a large substitution effect away from this
firm
IV. All firms (industry participants and new entrants) are assumed to have
equal access to resources (technology, other factor inputs) and
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improvements in production technologies achieved by one firm can spill-
over to all the other suppliers in the market
V. There are assumed to be no barriers to entry & exit of firms in long run –
which means that the market is open to competition from new suppliers –
this affects the long run profits made by each firm in the industry. The
long run equilibrium for a perfectly competitive market occurs when the
marginal firm makes normal profit only in the long term
In the short run the equilibrium market price is determined by the interaction
between market demand and market supply. In the diagram shown above, price P1
is the market-clearing price and this price is then taken by each of the firms.
Because the market price is constant for each unit sold, the AR curve also
becomes the Marginal Revenue curve (MR). A firm maximises profits when
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marginal revenue = marginal cost. In the diagram above, the profit-maximising
output is Q1. The firm sells Q1 at price P1. The area shaded is the economic
(supernormal profit) made in the short run because the ruling market price P1 is
greater than average total cost.
Not all firms make supernormal profits in the short run. Their profits depend on
the position of their short run cost curves. Some firms may be experiencing sub-
normal profits because their average total costs exceed the current market price.
Other firms may be making normal profits where total revenue equals total cost
(i.e. they are at the break-even output). In the diagram below, the firm shown has
high short run costs such that the ruling market price is below the average total
cost curve. At the profit maximising level of output, the firm is making an
economic loss (or sub-normal profits)
In the diagram below there has been an increase in market demand (ceteris
paribus). This causes an increase in market price and quantity traded. The firm's
average revenue curve shifts up to AR2 (=MR2) and the profit maximising output
expands to Q2. Notice that the MC curve is the firm's supply curve. Higher prices
cause an expansion along the supply curve. Following the increase in demand,
total profits have increased. An inward shift in market demand would have the
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opposite effect. Think also about the effect of a change in market supply - perhaps
arising from a cost-reducing technological innovation available to all firms in a
competitive market.
If most firms are making abnormal profits in the short run there will be an
expansion of the output of existing firms and we expect to see the entry of new
firms into the industry. Firms are responding to the profit motive and supernormal
profits act as a signal for a reallocation of resources within the market. The
addition of new suppliers causes an outward shift in the market supply curve. This
is shown in the diagram below.
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Making the assumption that the market demand curve remains unchanged, higher
market supply will reduce the equilibrium market price until the price = long run
average cost. At this point each firm is making normal profits only. There is no
further incentive for movement of firms in and out of the industry and a long-run
equilibrium has been established.
The entry of new firms shifts the market supply curve to MS2 and drives down the
market price to P2. At the profit-maximising output level Q3 only normal profits
are being made. There is no incentive for firms to enter or leave the industry. Thus
a long-run equilibrium is established.
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in the market reflects the factor cost of resources used up in producing / providing
the good or service.
Productive efficiency occurs when price is equal to average cost at its minimum
point. This is not achieved in the short run – firms can be operating at any point on
their short run average total cost curve, but productive efficiency is attained in the
long run because the profit maximising output is achieved at a level where
average (and marginal) revenue is tangential to the average total cost curve. The
long run of perfect competition, therefore, exhibits optimal levels of static
economic efficiency.
When economists analyse the production decisions of a firm, they take into
account the structure of the market in which the firm is operating. The structure of
the market is determined by four different market characteristics: the number and
size of the firms in the market, the ease with which firms may enter and exit the
market, the degree to which firms' products are differentiated, and the amount of
information available to both buyers and sellers regarding prices, product
characteristics, and production techniques.
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simply takes the market price as given. The conditions that cause a market to be
perfectly competitive also cause the firms in that market to be price-takers. When
there are many firms, all producing and selling the same product using the same
inputs and technology, competition forces each firm to charge the same market
price for its good. Because each firm in the market sells the same, homogeneous
product, no single firm can increase the price that it charges above the price
charged by the other firms in the market without losing business. It is also
impossible for a single firm to affect the market price by changing the quantity of
output it supplies because, by assumption, there are many firms and each firm is
small in size.
EXAMPLES
Though there is no actual perfectly competitive market in the real world, a number
of approximations exist:
Horse betting is also quite a close approximation. When placing bets, consumers
can just look down the line to see who is offering the best odds, and so no one
bookie can offer worse odds than those being offered by the market as a whole,
since consumers will just go to another bookie. This makes the bookies price-
takers. Furthermore, the product on offer is very homogeneous, with the only
differences between individual bets being the pay-off and the horse. Of course,
there are not an infinite amount of bookies, and some barriers to entry exist, such
as a license and the capital required setting up.
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Free software works along lines that approximate perfect competition as well.
Anyone is free to enter and leave the market at no cost. All code is freely
accessible and modifiable, and individuals are free to behave independently. Free
software may be bought or sold at whatever price that the market may allow.
Some believe that one of the prime examples of a perfectly competitive market
anywhere in the world is street food in developing countries. This is so since
relatively few barriers to entry/exit exist for street vendors. Furthermore, there are
often numerous buyers and sellers of a given street food, in addition to
consumers/sellers possessing perfect information of the product in question. It is
often the case that street vendors may serve a homogenous product; in which little
to no variations in the product's nature exist.
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4. CONCLUSION
When by an increase in the effectual demand, the market price of some particular
commodity happens to rise a good deal above the natural price, those who employ
their stocks in supplying that market are generally careful to conceal this change.
If it was commonly known, their great profit would tempt so many new rivals to
employ their stocks in the same way that, the effectual demand being fully
supplied, the market price would soon be reduced to the natural price, and perhaps
for some time even below it. If the market is at a great distance from the residence
of those who supply it, they may sometimes be able to keep the secret for several
years together, and may so long enjoy their extraordinary profits without any new
rivals. Secrets of this kind, however, it must be acknowledged, can seldom be long
kept; and the extraordinary profit can last very little longer than they are kept.
Market economies are assumed to have many buyers and sellers, high competition
and many substitutes. Monopolies characterize industries in which the supplier
determines prices and high barriers prevent any competitors from entering the
market. Oligopolies are industries with a few interdependent companies. Perfect
competition represents an economy with many businesses competing with one
another for consumer interest and profits.
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5. REFERENCES
An Inquiry into the Nature and Causes of Wealth of Nations, by Adam Smith
(http://geolib.com/smith.adam/won1-07.html)
Samuelson & Marks, Managerial Economics 4th ed. (Wiley 2003) at 365.
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Monopoly vs Oligopoly
(http://www.diffen.com/difference/Monopoly_vs_Oligopoly)
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