Market structures

MARKET
• Definition:
Acc. To Chapman “Market refers not to a place
but a commodity or commodities of buyers and
sellers of the same who are in direct competition
with each other”
 Features of Market
• One commodity
• Area
• Buyers and Sellers
• Perfect Competition
• Business relationship between Buyers and
Sellers
• Perfect Knowledge of the Market
• One Price
• Sound Monetary System
• Presence of Speculators
 Extent Of Market
There are several factors which make the
markets wide or narrow:

1. Extent of Demand
If the demand for a commodity is universal and
constant, it will have a wide market. In the case
of limited or fluctuating demand, the market will
be narrow

2. Portability:
3. Durability:
If a good is perishable, e.g., fresh fruits and milk,
it cannot have a wide market.

4. Possibility of Sampling and Grading:

Those commodities have a wide market which
can be easily graded or sold by sample.

5. Peace and Security

6. Tariff Policy of the Government
 PERFECT COMPETITION
• Perfect competition is a unique form of the
marketplace that allows multiple companies to
sell the same product or service.

• Many consumers are looking to purchase those

products. None of these firms can set a price
for the product or service they are selling
without losing business to other competitors.

• There are no barriers to any firm that is looking

to enter or exit the market. The final output
 Features of Perfect Competition
• Many Buyers and Sellers
• Homogeneity
• Free Entry and Exit
• Perfect Knowledge
• Mobility of Factors of Production
• Transport Cost
• Absence of Artificial Restrictions
• Uniform Price
 How are Prices Determined Under
Perfect
• Pricing under PerfectCompetition
Competition will be
considered in three different periods-

• Market Period
• Short Run
• Long Run
 Market Period
• In a Market period, the time span is so short
that no one can increase its output. The Market
period of the stock may be an hour, a day or a
few days or even a few weeks depending upon
the nature of the product.

• For example, in the case of perishable stock

such as vegetables, fruits, fish, eggs, baked
goods the period may be limited by a day or
two
 P

Quantity

Fig.4-1.Pricinginthemarketperiod
• The supply curve of perishable commodities
like fish is perfectly inelastic and assumes the
form of a vertical straight line SS. Let us
suppose that the demand curve for fish is given
by dd. Demand curve and supply curve
intersect each other at point R, determining the
price OP. If the demand for fish increases
suddenly, shifting the demand curve upwards
to d’d’

• The equilibrium point shift from R to R” and

the price rises to OP’. In this situation, price is
determined solely by the demand condition
If the supply of the product decreases suddenly from SS to S’S’, the price increases
from P to P’. In this case price is determined by supply, the supply being an active
agent.
Perfect Competition in Short Run
• Short term means that amount of time is not
enough to change the fixed input or the
number of companies in the industry, but it is
enough to change the output by changing the
variable input.

• In the Short term, there are two distinct costs:

(i) fixed costs and
(ii) variable costs.
Equilibrium of a firm in Perfect Competition
in Short Run
 For the equilibrium of a firm the
two conditions must be fulfilled:
(a) The marginal cost must be equal to the
marginal revenue. However, this condition is not
sufficient, since it may be fulfilled and yet the
firm may not be in equilibrium. In the figure
marginal cost is equal to marginal revenue at
point e’, yet the firm is not in equilibrium as Oq
output is greater than Oq’.

(b) The second and necessary condition for

equilibrium requires that the marginal cost curve
cuts the marginal revenue curve from below i.e.

The average cost QC is less than average
revenue QB, and the firm earns profits equal
to the area ABCD.
The Average cost QF is higher than
QG average revenue and the firm is
incurring loss equal to the shaded
area EFGH. In this case the firm
will continue to produce only if it is
able to cover its variable costs.
 The point at which the firm covers its variable costs is called ‘the
closing-down point’. If the price falls below or average costs rise, the
firm does not cover its variable costs and is better off if it closes down.
• A Long term is Long RunLong enough to
a time period
allow you to change both variable and fixed
factors. Therefore, in the Long run, all factors
are variable and not fixed.

Conditions for Company Equilibrium

To achieve Equilibrium, a Company must meet
two conditions:

• You need to make sure that the marginal

revenue is equal to the marginal cost (MR =
• In the long-run, new firms can also enter the
industry. This is the free entry and exit feature
which has two implications:

• There is no compulsion on the firm to operate

under losses and it can leave the industry.

• No firm can earn super-normal profits. This is

because when a firm earns super-normal
profits, it attracts new firms to the industry.
This leads to an increase in the supply which
results in lowering the prices and normalizing
of profits.
 Price #1
• The price in the market is below the optimum
cost of the firm (OP0). From this cost, we get a
corresponding average revenue of AR0 and
Marginal Revenue of MR0. As you can see in
the figure, MR0 cuts the LMC curve at two
points – E and E0.

• However, none of these points is the long-run

equilibrium of the firm. At point ‘E’, the LMC
curve cuts the MR0 curve from above while at
point E0, it cuts the curve from below. But,
 Price #2
• The price of the firm’s product is more than the
optimum cost or the least possible average cost
of the firm. In such cases, the firm is not in a
state of stable equilibrium. If this price is
OP2 with the average revenue curve AR2 and
the marginal revenue curve MR2, then we can
see that

• The LMC curve intersects the MR2 curve from

below at point E2

• AR2 > LAC

 Price #3
• The price of the firm’s product is equal to its
optimum cost of production. If this price is
OP1 with the average revenue curve AR1 and
the marginal revenue curve MR1, then we can
see that

• The MR1 curve cuts the LMC curve from

below at the lowest point E1

• AR1 = LAC

• Therefore, the firm neither incurs a loss nor

 Monopoly Market
• A monopoly market is a form of market where
the whole supply of a product is controlled by
a single seller. There are three essential
conditions to be met to categorize a market as
a monopoly market.

• There is a Single Producer - The product

must have a single producer or seller. That
seller could be either an individual, a joint-
stock company, or a firm of partners. This
condition has to be met to eliminate any
competition.
 Features
• The of only
product has a Monopoly Market
one seller in the market.
• Monopolies possess information that is
unknown to others in the market.
• There are profit maximization and price
discrimination associated with monopoly
markets. Monopolists are guided by the need
to maximize profit either by expanding sales
production or by raising the price.
• It has high barriers to entry for any new firm
that produces the same product.
• The monopolist is the price maker, i.e., it
 Reasons for the Existence of
Monopoly Market
• The firm owns a key resource, for example,
Debeers and Diamonds.
• The firm receives exclusive rights by the
government to produce a particular product.
Like patents on new drugs, the copyright for
books or software, etc.
• One producer can be more efficient than others
due to the cost of production. This gives rise to
increasing returns on sale. Few examples are
American electric power, Columbia Gas.
 Sources of Monopoly Power
• Legal barriers
• Economies of sale
• Technological superiority
• Control of natural resources
• Network externalities
• Deliberate actions
• Capital requirements
• No suitable substitute
 THREE DIFFERENT
SITUATIONS ARISE IN
1. MONOPOLY
When the monopolist earns abnormal
profits
If the price determined by the monopolist in
more than AC, he will get super normal profits.
The monopolist will produce up to the level
where MC=MR.

2. When he gets normal profit

A monopolist in the short run would enjoy
normal profits when average revenue is just
equal to average cost.
3. When he suffer losses
• In the short run, the monopolist may have to
incur losses. This situation occurs if in the
short run price falls below the variable cost. In
other words, if price falls due to depression
and fall in demand, the monopolist will
continue to produce as long as price covers the
average variable cost. Once the price falls

• Below the average variable cost, monopolist

will stop production. Thus, a monopolist in the
short run equilibrium has to bear the minimum
loss equal to fixed costs. Therefore,
 Short Run Equilibrium under
Monopoly
• The firm earns normal profits – If the average
cost = the average revenue
• It earns super-normal profits – If the average
cost < the average revenue
• It incurs losses – If the average cost > the
average revenue
Short run Equilibrium in Monopoly
Super-normal Profits
Losses
Long Run Equilibrium under
Monopoly
• Long-run is the period in which all variable
factors can be changed and monopolist would
choose that plant size which is most
appropriate for specific level of demand.

• Here, equilibrium would be attained at that

level of output where the long-run marginal
cost cuts marginal revenue curve from below.
• Monopolist is in equilibrium at OM level of
output. At OM level of output marginal
revenue is equal to long run marginal cost and
the monopolist fixes OP price.

• Price OP being more than LAC i.e., HM which

fetch the monopolist super normal profits.
Accordingly, the monopolist earns JM – HM =
JH super normal profit per unit. His total super
normal profits will be equal to shaded area
PJHP
Types of Price Discrimination in
Monopoly
i. Personal:
Refers to price discrimination when different
prices are charged from different individuals.
The different prices are charged according to the
level of income of consumers as well as their
willingness to purchase a product. For example,
a doctor charges different fees from poor and
rich patients.

ii. Geographical:
Refers to price discrimination when the
monopolist charges different prices at different
places for the same product. This type of
Degrees of Price Discrimination
i. First-degree Price Discrimination:
Refers to a price discrimination in which a
monopolist charges the maximum price that each
buyer is willing to pay. This is also known as
perfect price discrimination as it involves
maximum exploitation of consumers. In this,
consumers fail to enjoy any consumer surplus.
First degree is practiced by lawyers and doctors.

ii. Second-degree Price Discrimination:

Refers to a price discrimination in which buyers
are divided into different groups and different
prices are charged from these groups depending
upon what they are willing to pay. Railways and
 Necessary Conditions for Price
Discrimination
i. Existence of Monopoly:

ii. Separate Market: there must be two or more

markets that can be easily separated for
discriminating prices.

iii. No Contact between Buyers

iv. Different Elasticity of Demand:

low price will be charged, whereas in markets
Advantages and Disadvantages of
Price Discrimination
i. Helps organizations to earn revenue and
stabilize the business

ii. Facilitates the expansion plans of

organizations as more revenue is generated

iii. Benefits customers, such as senior citizens

and students, by providing them discounts

In spite of advantages, there are certain

 Disadvantages of price
discrimination
i. Leads to losses as some consumers end up
paying higher prices

ii. Involves administration costs for separating

markets.
MONOPOLISTIC COMPETITION
• Monopolistic competition occurs when many
companies offer products that are similar but
not identical.
• Firms in monopolistic competition differentiate
their products through pricing and marketing
strategies.
• Barriers to entry, or the costs or other obstacles
that prevent new competitors from entering an
industry, are low in monopolistic competition.
 Characteristics of Monopolistic
1. Competition
Low Barriers to Entry

2. Product Differentiation
Competing companies differentiate their similar
products with distinct marketing strategies, brand
names, and different quality levels

3. Pricing
Companies in monopolistic competition act
as price makers and set prices for goods and
 Advantages of Monopolistic
Competition
• Few barriers to entry for new companies
• Variety of choices for consumers
• Company decision-making power for prices
and marketing
• Consistent quality of product for consumers
 Disadvantages of Monopolistic
Competition
• Many competitors limits access to economies
of scale
• Inefficient company spending on marketing,
packaging and advertising
• Too many choices for consumers means extra
research for consumers
• Misleading advertising or imperfect
information for consumers
 Differenceamongperfectcompetition,monopolyandmonopolisticcompetition
Basis Perfectcompetition Monopoly Monopolisticcompetition
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Price-output determination under
Monopolistic
• In monopolistic Competition
competition, since the product
is differentiated between firms, each firm does
not have a perfectly elastic demand for its
products.

• In such a market, all firms determine the price

of their own products. Therefore, it faces a
downward sloping demand curve.
 Conditions for the Equilibrium of
an individual
• The conditions for price-outputfirm
determination
and equilibrium of an individual firm are as
follows:
• MC = MR
• The MC curve cuts the MR curve from below.

• In Fig. 1, we can see that the MC curve cuts the

MR curve at point E. At this point,
• Equilibrium price = OP and
• Equilibrium output = OQ
 Long-run equilibrium
• If firms in a monopolistic competition earn
super-normal profits in the short-run, then new
firms will have an incentive to enter
the industry.

• As these firms enter, the profits per firm

decrease as the total demand gets shared
between a larger number of firms. This
continues until all firms earn only normal
profits. Therefore, in the long-run, firms, in
such a market, earn only normal profits.
 MCLAC
PriceandCost

D/AR

MR

Q,Output
ExcessCapacity
Fig.
 Each firm will be earning only normal profits in
the long-run. In the figure, all firms are in long-
run equilibrium at point E where
(1) LMC = MR, and
(2) LMC cuts MR from below
Since price QA = LAC at point A, each firm is
earning normal profits and no firm has the
tendency to enter or leave the industry.
 Oligopoly
• An oligopoly is a market structure with a small
number of firms, none of which can keep the
others from having significant influence. The
concentration ratio measures the market share
of the largest firms.
 Characteristics of Oligopoly
1. Interdependence
In order to match the impacts induced, the
competitor firms might change their prices and
profits. Thus, the oligopoly market is a totally
interdependent network

2. Advertising
Due to interdependence, it is essential for the
forms to invest a huge amount in the marketing
and promotional activities
4. Entry barriers
Generally, it is difficult to enter an oligopolistic
market, even in an open oligopoly. As it has to
compete as a small start-up industry with large
and economically stable firms. Here the most
common entry barriers that are observed are as
follows:

• Exclusive resource ownership

• Patents and copyrights
• High start-up cost
• Government restrictions
 What are the major examples of
oligopoly market strategy?
• Pharmaceutical sector
As the market is controlled by top firms such as
Merck, Pfizer and Abbott. The entry for new
firms in this sector is quite limited and
restricted. As the patents are being registered
here, it creates a notebook of experience for the
future. Also, it can produce both similar and
different products.

• Media sector
Media sector is also a kind of oligopoly industry.
Computer technology industry

This sector is a best example of oligopoly. The

entire computer technology market is globally
dominated by two leaders named Apple and
Windows. Due to their economic growth across
the globe, no other firm is trying to enter in this
sector.

Automobile industry

These include Hyundai, Maruti, etc. Automobile

sector is an example of organized oligopoly. As
 Types of oligopoly
Pure oligopoly
Pure oligopoly is also known as perfect
oligopoly. This strategy has a homogeneous
product. For example, the aluminium industry.

Imperfect oligopoly
Imperfect oligopoly is also known as
differentiated oligopoly. This industry has
product differentiation at the end. For example,
the talcum industry.

Open oligopoly
Competitive oligopoly
Competitive oligopoly is the opposite of
collusive oligopoly and basically a competitive
strategy. This type of oligopoly occurs due to
lack of understanding between the industries of
the market. Due to which they create
invariable competition for one another.

Partial oligopoly
In this strategy there exists an industry as the
price leader. The situation when a particular firm
or industry is more powerful in the market as
compared to other industries. A large firm
 Kinked Demand Curve Model
• The kinked demand curve of oligopoly was developed by Paul M. Sweezy
in 1939.
• The model advocates that the behavior of oligopolistic organizations
remain stable when the price and output are determined.
• This implies that an oligopolistic market is characterized by a certain
degree of price rigidity or stability, especially when there is a change in
prices in downward direction.
• There can be two possible reactions of rival organizations when there are
changes in the price of a particular oligopolistic organization.
– The rival organizations would either follow price cuts, but not price
hikes
– They may not follow changes in prices at all.
 ASSUMPTIONS
• There are few firms in the oligopolistic
industry.
• The product produced by one firm is a close
substitute for the other firms.
• There is no differentiation in quality of the
product.
• There are no advertising expenditures.
• The slope of a kinked demand curve differs in
different conditions, such as price increase and
price decrease. In this model, every
organization faces two demand curves. In case
of high prices, an oligopolistic organization
faces highly elastic demand curve, which is dd'
in Figure-2.On the other hand, in case of low
prices, the oligopolistic organization faces
inelastic demand curve, which is DD'. Suppose
the prevailing price of a product is PQ. If one
of the oligopolistic organizations makes
changes in its prices, then there can be three
reactions of rival organizations.
• Thirdly, the rival organizations may follow
price cut, but not price hike. If the oligopolistic
organization increases the price and rivals do
not follow it, then consumers may switch to
rivals. Thus, the rivals would gain control over
the market. Thus, the oligopolistic organization
would be forced from dP demand curve to DP
demand curve, so that it can prevent losing its
customers. This would result in producing the
kinked demand curve. On the other hand, if the
oligopolistic organization reduces the price,
the rival organizations would also reduce
prices for securing their customers. Here, the
relevant demand curve is Pd'. The two parts of
 CRITICISMS
• It is not likely that the gap in the marginal
revenue curve will be wide enough for the
marginal cost curve to pass through it. It may
be shortened even under conditions to fall in
demand or costs, thereby making price
unstable.

• Critics point out that the kinked demand curve

analysis holds during the short-run, when the
knowledge about the reactions of rivals are
low. But it is difficult to guess correctly the
rivals’ reactions in the long-run. Thus, the
• Kinked demand curve model ignores non-price
competition among organizations. Non-price
competition can be in terms of product
differentiation, advertising, and other tools
used by organizations to promote their sales.

• The analysis also ignores the application of

price leadership and cartels, which account for
larger share of the oligopolistic market.
 Cartel
• A cartel occurs when two or more firms enter
into agreements to restrict the supply or fix the
price of a good in a particular industry.
• A cartel is a formal type of collusion.

Cartels are considered to be against the public

interest. This is because cartels aim to:
• Increase price
• Distort normal workings of a competitive
market
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• Price Cartels – They fix the minimum prices
per their demand-supply ratio. Members
cannot sell products below those prices.

• Term Cartels – They agree on business terms

on a routine basis. Each member is obliged to
follow the terms of trade. The terms of work
can be delivery-mode, delivery locations,
delivery time, terms of payment, charging of
interest in case of delay, etc

• Customer Assignment Cartels – Specific

customers are assigned to each member. Thus,
all customers are divided amongst the
• Zonal Cartels – They assign the geographical
locations of the country to each member of the
cartel. Members should ensure to operate on
their specific territory.

• Syndicate Cartels – Several members unite to

sell collectively and reduce the cost of
production. Such cartels intend to achieve
economies of scale.

• Super Cartels – These are high-level

international collaborations. Cartels of the
domestic country agree with cartels of the
Price Leadership under Oligopoly
• Price leadership is a phenomenon where a
dominant organization determines the prices of
goods and/or services for the entire market.
Such an organization is referred to as a price
leader.

• Price leadership is common in oligopolistic

markets with homogenous goods—a market
where a small number of large sellers rule over
the others, offering similar products. Because
there’s no difference in products offered in an
 Types Of Price Leadership
1. Barometric Price Leadership

Barometric price leadership occurs when an

organization accurately analyses market trends
and consumer demands faster than its
competitors. In response to market shifts, the
organization then opts to adjust prices or
introduce cost-effective means of production.
Other organizations follow its lead and start
adopting the same prices and/or production
strategies to remain relevant.
2. Dominant Price Leadership
• Dominant price leadership happens when an
organization enjoys a large market share and
can exert considerable influence over prices in
the market. While there are other smaller
organizations offering similar products in the
dominant organization’s territory, they have no
power to sway price points.

3. Collusive Price Leadership

• Collusive price leadership occurs when a
number of large-scale organizations enter into
an implicit or explicit agreement to mutually
align their product prices. Smaller players in
Advantages
• Price leadership reduces the probability of
price wars, resulting in price stability
• Product quality improves because increased
profits allow price leaders to invest in research
and development
• Small businesses that don’t have the expertise
needed to survey market conditions rely on
price leadership to remain relevant

Disadvantages
• Small-scale organizations lacking economies of
scale struggle to keep up with the low prices