Types of Market Structures

There are certain features (characteristics) of the market, which classify the market structure as
perfect competition, monopolistic competition, oligopoly, or monopoly. Classification of each
market structures type depends on the following features (characteristics),

 The number of producers in the market.

 Degree of product differentiation.
 Buyer’s behavior in the industry.
 Seller’s behavior in the industry.
 Market share of the largest player.

1. Perfect Competition

Perfect competition occurs when there is a large number of small companies competing against
each other. They sell similar products (homogeneous), lack price influence over the
commodities, and are free to enter or exit the market.

Consumers in this type of market have full knowledge of the goods being sold. They are aware
of the prices charged on them and the product branding. In the real world, the pure form of this
type of market structure rarely exists. However, it is useful when comparing companies with
similar features. This market is unrealistic as it faces some significant criticisms described
below.

 No incentive for innovation: In the real world, if competition exists and a company
holds a dominant market share, there is a tendency to increase innovation to beat the
competitors and maintain the status quo. However, in a perfectly competitive market, the
profit margin is fixed, and sellers cannot increase prices, or they will lose their customers.

Advantage of perfect competition

1. Very Low Barriers to Entry & Exit

Markets experiencing perfect competition have very low barriers to entry. The advantage is for
both customers and the total industry. There will be new entrants in the market which brings
healthy competition to the industry. Also, consumers will not be a risk when a few companies get
together and increase their prices.

2. Chance Of Customer Exploitation Is Low

Any seller in the perfect competition market does not have monopoly pricing power. They can
not influence the output and price as individuals or groups since barriers to entry are low. This is
a positive factor for the consumers since their chance to be exploited is low.

3. Consumer Information Is High

Usually, there is a high level of information available to the customers in perfect competition
firms. This provides a greater advantage for the consumers to make informative decisions. This
will result “Customer Is King” level in the market.

4. Active Business Environment

Perfect competition results in an active business environment. There is a good level of

competition, individuals or groups can not dominate in the market, and many firms have the
market share distributed. These will result in many benefits for the industry.

5. Availability of High-Quality Products with Low Price

The level of competition is high in the perfect competition market. Firms have to lower their
profit margin and provide consumers low price competitive products. The market share will be
loosened otherwise. Also, firms have less chance to compromise the quality since consumers can
move from one brand to another easily.

6. Decrease Room For Monopoly With A Large Number of Producer Availability

Since barriers to entry are low in perfect competition, there will be many producers who will join
the market continuously. This is a very positive factor for the consumers and the industry as a
whole.

7. Standardize Products Irrespective of Producers

Consumers will get standardized products in the perfect competition market irrespective of the
seller. The consumer does not have to compare and think much since all products will serve the
same purpose. Producers will also have to spend fewer advertisement expenses since all products
are homogeneous

8. Optimum Utilization Of Resources

Firms earn a fewer profit margin because producers have to compete with a lower price.
Therefore producers try to increase efficiency and minimize wastage by utilizing resources
properly which results to lower the cost of production. This will help the producers to increase
their profit margin.
 Disadvantage of perfect competition

1. Identical (Non-Differentiated) Products and Services

Consumers will get the same kind of identical product in the perfect competition market. This is
a disadvantage for the consumers since they are limited with choices and different experiences.

2. Heavy Competition Results More Producers Exit

Heavy competition is another disadvantage for producers due to low barriers to entry and exit.
Producers may not continuously be in the market due to this. This will result in a negative impact
on an industry whole.

3. Risk Of Predatory Pricing

If a company has a large investment capability, it can choose the option to set the prices very low
to attempt to drive out competitors and create a monopoly. Competitors will not be able to
sustain if a firm set the prices low for a consecutive duration. They can simply use the predatory
pricing method.

4. Less Production Efficiency of Individual Firms

A perfect competition market allows many competitors in the market. This results in difficulty
for the companies to achieve economies of scale. A company can not reach the optimum
production efficiency capability due to the unavailability of economies of scale.
5. Less Research and Development
Producers have less potential to earn profit. This may result in fewer reserves for the producers
to start more research to uplift the product portfolio.

2. Monopolistic Competition

Monopolistic competition refers to an imperfectly competitive market with the traits of both the
monopoly and competitive market. Sellers compete among themselves and can differentiate their
goods in terms of quality and branding to look different. In this type of competition, sellers
consider the price charged by their competitors and ignore the impact of their own prices on their
competition.

When comparing monopolistic competition in the short term and long term, there are two distinct
aspects that are observed. In the short term, the monopolistic company maximizes its profits and
enjoys all the benefits as a monopoly.

The company initially produces many products as the demand is high. Therefore, its Marginal
Revenue (MR) corresponds to its Marginal Cost (MC). However, MR diminishes over time as
new companies enter the market with differentiated products affecting demand, leading to less
profit.

Advantage of monopolistic competition

1. Few Barriers to Entry
Markets experiencing monopolistic competition has fewer barriers to entry. The advantage is
with both consumer point of view and industry as a whole. There will be new rivalries in the
market which brings a healthy situation for the industry. Also, consumers will not stagnate to
few products since there are more producers available.

2. Differentiated Products and Services

Consumers will get the freedom to experience different products and services in the monopolistic
competition market. When compared with a monopoly market, the number of products is high in
the monopolistic competition market.

3. Uplift Innovation of the Industry

Since there is much competition in the market, firms try to do innovative things and uplift their
product/service offering. This is a healthy situation for the industry as innovation will drive the
industry to success.

4. A Large Number of Sellers / Producers

Since barriers to entry are low, there will be many sellers/producers who will join the market
continuously. This is a very positive factor for the consumers and the industry as a whole.

5. Consumer Has More Information

Usually, there is a high level of advertising in monopolistic competition firms. This provides a
greater advantage for the consumers with information and hence, lowers search costs. This
results in more informed consumers.

6. Active Business Environment

Monopolistic competition results in an active business environment. There is good competition,
since or group can not dominate in the market, market share is shared between many firms.
These will result in many benefits for the industry.

7. Low Price High-Quality Products

Since with the competition, firms have to lower their profit margin and provide consumers low
price competitive products. Otherwise, the market share will be loosened. Also, firms have less
chance to compromise the quality since consumers can move from one brand to another easily.
Disadvantage of monopolistic compitition

1. Less Production Efficiency of Individual Firms

Monopolistic competition market disallows monopoly to be in place. There are many

competitors in the market. This results in difficulty for the companies to achieve economies of
scale. A company can not reach the optimum production efficiency capability due to the
unavailability of economies of scale.

2. Advertising Focus More Than Product Quality

Companies focus on advertising and promotional activities to set a particular product or service
as superior to competitors. The focus shifts from product improvement to advertisements. This is
a disadvantage from the consumer’s point of view.

3. More Product Alternatives for Consumers

Consumers will be dissatisfied because there are many product alternatives available for them.
There will be many similar products in the market and customers will be misled to choose the
correct according to the expected quality.

4. Predatory Pricing
Firms that have a large investment potential can set the prices low to attempt to drive out
competitors and create a monopoly. Competitors will not be able to hold if a firm set the prices
low for a consecutive duration. This is known as predatory pricing.

5. Misleading Advertising
Since with the competition and substitutable products, firms will try to invest more and more in
advertising. Some advertisements will be false and misleading, uplifting the product quality more
than what it is, which is not a good situation from a consumer’s point of view.

6. Excess Resource Waste

Many firms compete in the market to produce similar products, using the same resources. But
with the difficulty to reach economies of scale, neither firm will hit the optimum production
optimization level. This will increase the resource waste in the industry as a whole.

7. Lack of Standardized Products

Since many firms pump investment into advertisements to increase sales, firms will not focus on
product quality. This will bring up the question of whether firms will produce standardized
products.
3. Oligopoly

An oligopoly market consists of a small number of large companies that sell differentiated or
identical products. Since there are few players in the market, their competitive strategies are
dependent on each other.

For example, if one of the actors decides to reduce the price of its products, the action will
trigger other actors to lower their prices, too. On the other hand, a price increase may influence
others not to take any action in the anticipation consumers will opt for their products. Therefore,
strategic planning by these types of players is a must.

In a situation where companies mutually compete, they may create agreements to share the
market by restricting production, leading to supernormal profits. This holds if either party honors
the Nash equilibrium state and neither is tempted to engage in the prisoner’s dilemma. In such an
agreement, they work like monopolies. The collusion is referred to as cartels.

Advantages Oligopoly Market

1. More Research and Development Space To Firms

When there is an oligopoly in a market/industry, it reflects the high earning potential of the
leaders, which can streamline their processes and create innovative products. The extra profit can
direct toward research and development projects, which ultimately help their consumers to
experience the quality.

As an example: the pharmaceutical industry is usually categorized as an oligopoly market in

which a higher research cost is required. But with good profit margins, these pharma firms can
pump more cash into their new research projects which ultimately benefit the community to
reduce the impact of the disease.

2. Consumers Experience A Simplified Market

There is low competition and low new rivals in an oligopolistic market. This means that there are
simpler choices for the customers to find the best possible product.

3. Oligopoly Can Turn Into A Competitive Strategy

The oligopoly market will have less competition, but the behavior of the firms can even be
highly competitive. Consumers can benefit from lower prices and better quality goods and
services due to the competitiveness of the firms.
4. Price Stability Due To Competitiveness
Usually, the prices of an oligopoly market are often higher than the normal competition. But on
the other side, competitors can easily compare prices which there will be pressure for the firms.
Firms enjoy low production costs due to the economies of scale, hence the prices can be reduced
while enjoying a good profit margin.
From a consumer point of view, oligopoly is advantageous because they can easily compare
prices among the few players in the market.

5. High Profits For Shareholders

With the little competition of the oligopolistic market, the companies have a good potential to
enjoy a considerable profit margin. This is an advantage for the shareholders which they can get
a satisfactory profit for their investment.

Disadvantages of Oligopoly Market

1. Fewer Choices In The Market For Consumers
With the less competition of the oligopolistic market, there are fewer products produced. There
are no other options available if neither of the products meets the needs of a consumer.
Oligopolistic markets create fewer choices for the customers.

2. Excess Profits Not Shared With Employees

Oligopolistic firms usually gain a good profit due to the price margins. The profit can be shared
among the shareholders and higher management only. The firm middle and lower levels can be
ignored to share the excess profit which they left to fight each other for what is left.

3. Firms Can Not Make Their Own Decisions

Firms cannot take independent decisions and always have to consider the views of other
dominant players in the market. An oligopoly market creates the only option for the firms to be
collaborative, rather than trying to compete with each other.

4. Less Change For Small Businesses To Grow

Small businesses in an oligopolistic market fail to establish themselves because most of the
market is captured by larger firms. New firms can not enter the market due to entry barriers.

4. Monopoly

In a monopoly market, a single company represents the whole industry. It has no competitor, and
it is the sole seller of products in the entire market. This type of market is characterized by
factors such as the sole claim to ownership of resources, patent and copyright, licenses issued by
the government, or high initial setup costs.
All the above characteristics associated with monopoly restrict other companies from entering
the market. The company, therefore, remains a single seller because it has the power to control
the market and set prices for its goods.

Advantages of monopolies

Economies of scale. In an industry with high fixed costs, a single firm can gain lower long-run
average costs – through exploiting economies of scale. This is particularly important for firms
operating in a natural monopoly (e.g. rail infrastructure, gas network). For example, it would
make no sense to have many small companies providing tap water because these small firms
would be duplicating investment and infrastructure. The large-scale infrastructure makes it more
efficient to just have one firm – a monopoly.

1. Note these economies of scale can easily outweigh productive and allocative inefficiency
because they are a greater magnitude.
2. Innovation. Without patents and monopoly power, drug companies would be unwilling
to invest so much in drug research. The monopoly power of patent provides an incentive
for firms to develop new technology and knowledge, that can benefit society. Also,
monopolies make supernormal profit and this supernormal profit can be used to fund
investment which leads to improved technology and dynamic efficiency. For example,
large tech monopolies, such as Google and Apple have invested significantly in new
technological developments.
 However, this can also have downsides with drug companies able to charge
excessively high prices for life-saving drugs. It also gives drug companies an
incentive to push pharmaceutical treatments rather than much cheaper solutions to
promoting good health and avoiding the poor health in the first place.
3. Firms with monopoly power may be the most efficient and dynamic. Firms may gain
monopoly power by being better than their rivals. For example, Google has monopoly
power on search engines – but can we say Google is an inefficient firm who don’t seek to
innovate?
Disadvantages of monopolies

1. Higher prices than in competitive markets – Monopolies face inelastic demand and so
can increase prices – giving consumers no alternative. For example, in the 1980s,
Microsoft had a monopoly on PC software and charged a high price for Microsoft Office.
2. A decline in consumer surplus. Consumers pay higher prices and fewer consumers can
afford to buy. This also leads to allocative inefficiency because the price is greater than
marginal cost.
3. Monopolies have fewer incentives to be efficient. With no competition, a monopoly can
make profit without much effort, therefore it can encourage x-inefficiency (organisational
slack)
4. Possible diseconomies of scale. A big firm may become inefficient because it is harder
to coordinate and communicate in a big firm.
5. Monopolies often have monopsony power in paying a lower price to suppliers. For
example, farmers have complained about the monopsony power of large supermarkets –
which means they receive a very low price for products. A monopoly may also have the
power to pay lower wages to its workers.
6. Monopolies can gain political power and the ability to shape society in an undemocratic
and unaccountable way – especially with big IT giants who have such an influence on
society and people’s choices. There is a growing concern over the influence of Facebook,
Google and Twitter because they influence the diffusion of information in society.