Market Structures and Equilibrium
Perfect Competition: Meaning and Features
Perfect competition is a market structure where there are many buyers and sellers offering identical
products. Firms are price takers and cannot influence market prices. Due to free entry and exit,
long-run profits tend to be normal.
Features of Perfect Competition
1. **Large number of buyers and sellers** - No single entity can influence the market price.
2. **Homogeneous products** - Products are identical, ensuring no brand differentiation.
3. **Free entry and exit** - Firms can enter or leave the market without restrictions.
4. **Perfect knowledge** - Buyers and sellers have complete information.
5. **Price takers** - Firms accept the market price as given.
6. **No transportation cost** - The price remains uniform.
7. **Perfect factor mobility** - Resources can move freely in and out of industries.
Profit Maximization Condition
A firm maximizes profit where **MR = MC**. If MR > MC, the firm should produce more, and if MR <
MC, the firm should reduce output. The point where MR = MC ensures maximum profitability.
Short-Run Equilibrium of a Perfectly Competitive Firm
In the short run, a firm can experience:
- **Supernormal profits** if the price is above ATC.
- **Normal profits** if P = ATC.
- **Losses** if P < ATC but continues to operate if P > AVC.
The firm produces where **MR = MC**.
Long-Run Equilibrium of a Perfectly Competitive Firm
In the long run, firms enter or exit the market based on profitability. If firms make supernormal
profits, new firms enter, increasing supply and reducing prices. If firms incur losses, some exit,
reducing supply and increasing prices. Ultimately, firms earn only **normal profit**, producing at the
minimum point of the **LRAC curve**.
Features of Monopoly
1. **Single seller** - The firm is the sole producer.
2. **No close substitutes** - Consumers have no alternatives.
3. **Price maker** - The firm controls the price.
4. **Barriers to entry** - High startup costs, patents, or government regulations prevent competition.
5. **Abnormal profits possible in the long run** due to restricted competition.
Sources of Monopoly Power
1. **Legal barriers** (patents, licenses) prevent new entrants.
2. **High startup costs** make it difficult for competitors.
3. **Exclusive ownership of resources** gives a monopoly control.
4. **Economies of scale** allow lower costs per unit, preventing competition.
5. **Brand loyalty** ensures customers prefer a single firm's products.
Short-Run and Long-Run Equilibrium of a Monopoly Firm
In the short run, a monopoly can earn supernormal profits or losses. In the long run, barriers to entry
ensure monopolies sustain profits.
Features of Monopolistic Competition
1. **Large number of sellers** - Many firms exist in the market.
2. **Product differentiation** - Each firm's product is unique.
3. **Free entry and exit** - Firms can enter and exit freely in the long run.
4. **Non-price competition** - Branding and advertising matter.
5. **Some control over price** due to product differentiation.
Features of Oligopoly
1. **Few dominant firms** - A small number of firms control the market.
2. **Interdependence** - Firms' decisions affect each other.
3. **Barriers to entry** - High costs and brand loyalty prevent entry.
4. **Price rigidity** - Prices remain stable due to fear of price wars.
5. **Non-price competition** - Advertising plays a crucial role.
Kinked Demand Curve
Oligopolists face a **kinked demand curve**, leading to price rigidity. If a firm raises its price, rivals
do not follow, leading to a loss of customers. If a firm lowers its price, competitors match it, resulting
in no gain.