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Lecture 15

IT 1081C Lecture Notes - Lecture 15: Market Structure, Market Power, Monopolistic Competition

Information Technology
Course Code
IT 1081C
Mark Stockman

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Meaning of the term Market
Types of markets perfect competition and imperfect market
Features of perfect competitive market monopoly market and oligopoly
Difference between the different forms of market
Market: Anything which facilitates contact between buyers and sellers constitutes a
market. It refers to the entire place where the buyers and sellers are in contact with each
other to buy and sell commodities.
Factors determining the market structure: market structure refers to the type of
market. It is determined by the following 3 factors-
1) number of buyers and sellers of a commodity
2) nature of competition between them
3) nature of commodity
On the basis of above 3 factors there are 2 types of market structure-
I) Perfectly competitive market
II) Imperfectly competitive market- This is further sub divided into 3 types-
1) monopoly
2) monopolistic competition
3) oligopoly
Define perfect competition.
It is the form of market where there is a large number of buyers and sellers of a
commodity. Homogenous product is sold with no control over price by an individual
Conventionally, in micro economics the markets are classified into these states: perfect
competition, monopoly, monopolistic competition and oligopoly.
There are many criteria of classification
The number of sellers
Similarity of products
Availability of information
Mobility of firms
The inputs engaged in the firm, etc.
Whatever the criteria the end result is reflected in one thing : how much influence an
individual seller, on his own, is able to exercise on the market. Lower the influence more
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the competitive nature of the market it indicates. If the influence of an individual seller is
zero, or virtually zero, the market is said to be perfectly competitive.
In terms of its features, a perfectly competitive is a market where there are large numbers
of buyers and sellers, the firms produce homogeneous products, the buyers and sellers
have perfect knowledge and the firms are free to entry or make an exit in and out of
industry. In terms of the end result of these features which is unique to this market, a
perfectly competitive market is one in which an individual firm cannot influence the
prevailing market price of the product on its own.
Features and their implications
A perfectly competitive market has the following features:
1. Large number of sellers and buyers
The number of firms selling a particular commodity is so large that any increase or
decrease in the supply of one particular firm hardly influences the total market supply.
Note that 'large number' is not a specifically defined number
However, it has a specific implication
Let us talk about the large number of sellers first. The words 'large number'
implies that the number of sellers is large enough to render a single seller's share
in total market supply of the product insignificant.
It has a further implication. Insignificant share means that if only one individual
firm reduces or raises its own supply, the prevailing market price remains
The prevailing market price is the one which was set through the interaction of
market demand and market supply forces, for which all the sellers and all the
buyers together are responsible.
One single seller has no option but to sell what it produces at this market
determined price.
This position of an individual firm in the total market is referred to as price
This is a unique feature of a perfectly competitive market.
Similarly, the 'large number' of buyers also has the same implication.
A single buyer's share in total market demand is so insignificant that the buyer
cannot influence the market price on his own by changing his demand.
This makes a single buyer also a price taker.
To sum up, the feature 'large number' indicates ineffectiveness of a single seller or a
single buyer in influencing the prevailing market price on its own, rendering him
simply a price taker.
2. The products of all the firms in the industry are homogenous
It means that the buyers treat the products of all the firms in the industry as
The products produced by the firms are identical, or treated as identical, or
perfectly standardized.
The buyers do not distinguish the output of one firm from that of the other.
The implication of this feature is that since the buyers treat the products as identical
they are not ready to pay a different price for the product of any one firm. They will
pay the same price for the products of all the firms in the industry.
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On the other hand, any attempt by a firm to sell its product at a higher price will
fail .and any attempt by a firm to sell its product at a higher price will fail.
To sum up, the 'homogenous products' feature ensures a uniform price for the
products of all the firms in the industry.
3. Perfect knowledge about markets for outputs and inputs.
The firms have all the knowledge about the product market and the input markets.
Buyers also have perfect knowledge about the product market.
Let us take the product market first. The implication of perfect knowledge about the
product market is that any attempt by any firm to charge a price higher than the
prevailing uniform price will fail.
The buyers will not pay because they have perfect knowledge. There is no
ignorance factor operating in the market.
The sellers do not charge a lower price due to ignorance. The buyers do not pay a
higher price due to ignorance.
A uniform price prevails in the market.
As regards the knowledge about the input markets, the implicit assumption is that
each firm has an equal access to the technology and the inputs used in the technology.
No firm has any cost advantage. Cost structure of each firm is the same.
All the firms have a uniform cost structure.
Since there is uniform price and uniform cost in case of all firms, and since profits
equals cost less price, all the firms earn uniform profits.
4. Freedom to firms to enter or to leave the industry in the long run
Freedom of entry means that there are no artificial barriers and natural barriers in
the way of a new firm wishing to enter into industry.
The artificial barriers may take the form of patent rights, legal restrictions, etc.
The natural barrier may take the form of huge capital expenditure required to
start a new firm, which the firm wishing to enter is not able to arrange.
Freedom of exit means no barriers in the way of a firm deciding to leave the
industry. Government rules, labour laws, loss of huge fixed capital etc. do not
come in the way.
The freedom of entry and exit of firms has an important implication. This ensures
that no firm can earn above normal profits in the long run. Each firm earns just the
normal profits, i.e. minimum necessary to carry on business. In Microeconomics, normal
profits is treated as an opportunity cost, and therefore, counted in calculation of total cost.
Since profit equals total revenue minus total cost, normal profit means zero economic
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