Business Economics Unit 2 : Market Structure

Kedar Subramanian Asst. Prof, MPSTME.

Circular Flow of Economy

Business Economics, SPTM, 2009

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Circular Flow of Economy

Market : A market is a mechanism through which

buyers and sellers interact to set prices and exchange goods and services. Market Equilibrium : This represents a balance among all different buyers and sellers. This is achieved through the equilibrium price. Consumers demand (buy) products and supply (sell) factors of production. Business demand Factors of Production (FOP) and supply products. Consumers use their income from income from sale of labor and other inputs to buy goods and services from businesses. Business Economics, SPTM, 2009 8/22/2012

Circular Flow of Economy..

Businesses base their prices of goods on the cost

of labor and property. Prices in goods markets are set to balance consumer demand with businesses supply. Prices in factor markets are set to balance household supply with businesses demand.

Business Economics, SPTM, 2009

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Two Types of Market Structure

1) Perfect Competition : In this form of market

structure, sellers have NO control over the price of their output.

2) Imperfect Competition : In this form of market

structure, sellers have SOME measure of control over the price of their output

Business Economics, SPTM, 2009

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Perfect Competition Characteristics

A. The Number of buyers and sellers is LARGE.

B. Products are HOMOGENOUS. i.e. product is

identical in features and quality. Closest possible example : agricultural products / financial products. C. PERFECT KNOWLEDGE of market is available to both buyers and sellers. D. There exists FREEDOM TO ENTRY AND EXIT of market for buyers and sellers. OR There are NO ENTRY OR EXIT BARRIERS for new entrants. Business Economics, SPTM, 2009 E. Hence sellers have NO control wrt price. 8/22/2012

Imperfect Competition
Type 1) MONOPOLY Market Structure Type 2) OLIGOPOLY Market Structure Type 3) MONOPOLISTIC COMPETITION Market

Structure

Business Economics, SPTM, 2009

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MONOPOLY Market Structure

Monopolist could refer to either SINGLE buyer or

SINGLE seller which exists with complete control over the market. It has complete pricing power and service policy. The entry barriers for any new player are extremely HIGH. There is no close substitute for the product or service provided by the monopolist. Monopolist enjoys supernormal profits and spends minimally in marketing and advertising.
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Business Economics, SPTM, 2009

OLIGOLPOLY Market Structure

The number of sellers is this market are few ( 2

8) The product features are differentiated to a certain extent. Each seller has to take into account the impact of its pricing policy on its rivals. Entry barriers are present to a significant extent. i.e. There is limited entry possible for new entrants. Players need to aggressively invest in marketing and advertising on a large scale and create a differentiation in the mind of its customers. Product and Service Quality acts as a important Business Economics, SPTM, 2009 8/22/2012 point of differentiator in this market structure.

MONOPOLISTIC COMPETITION M.S.

The Number of buyers and sellers is LARGE.

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(Similar to Perfect Comp) There exists FREEDOM TO ENTRY AND EXIT of market for buyers and sellers. OR There are NO ENTRY OR EXIT BARRIERS for new entrants. (Similar to Perfect Comp) The products are VASTLY DIFFERENTIATED and hence the market is fragmented with each player being a monopolist is his respective market segment. Marketing and advertising is FOCUSSED. (And not broad-based Business Economics, SPTM, 2009 as in Oligopolistic Competitive 8/22/2012 Structure)

Role of Government in overcoming shortcomings in an market economy

The following are the three major category of

problems faced in an market economy :

1. Inequality in distribution of income and wealth 2. Inefficiency in the (competitive) Market Structure. 3. Macro-Economic Problems

Factor 1 : Inequality in Distribution of Income and

Wealth can be by addressed by the government taking steps to appropriately redistributing income. Redistributing income can be achieved by improving the overall taxation policies and providing income-support by means of subsidies to the marginalized section(s) of society.
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Factor 2 - Inefficiencies in the M.S.

In general, a monopolistic market structure tends

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to be inefficient. The government can encourage competition by de-regulation, disinvestment and privatization programs. In this way, the government plays the role of a regulator to ensure fair play. The government can also play an important role in expanding the Production Possibility Frontier (PPF) by investing in public education, healthcare and other forms of Public goods to encourage beneficial activities. Business Economics, SPTM, 2009 8/22/2012

Factor 3 - Macro-Economic Problems

This could be due to slow economic growth. The

government can help stimulate growth by improving the taxation system and improving national savings. Macro-Economic Problems could also be a result of the variation in the business cycle(s) across various segments of society. A business cycle refers to the fluctuations in economic activity characterized by periodic boom (prosperity) and slump (depression) in the economic activity. They are essential perpetual features of the economic environment of a country. During times of slump in the business cycle, the government can stabilize the economy through various monetary and fiscal policies.
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Business Cycle in Price of Gasoline

Ravi Batra in his book, The New Golden Age..

comments that gasoline prices complete one business cycle in 30 years. The future projection of gasoline prices is as shown below .

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Business Economics, SPTM, 2009

8/22/2012

Business Cycle in Price of Gasoline

This pattern resembles the same pattern which

marked the oil bubble of the 1970s. It started to peak in 1973 and continued to rise till 1982 and thereafter exploded in 2003.

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Business Economics, SPTM, 2009

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