Prepared by:

Abhimanyu Kotwal Srivastav chaudhary Anshul Deepak

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Classification of Market Structures

Forms of Market structure Perfect competiti on Imperfect competiti on Monopolist ic competitio n Pure Oligopoly Differentiat ed Oligopoly Monopoly Number of firms Large No. of sellers Nature of product Homogen eous product Status of entry into industry Free entry & exit Price elasticity of demand Infinite

Degree of control over price Nil

Fairly large No. of firms Few firms

Few firms One

Close substitut es Homogen eous products Close substitut es No close substitut es

Free entry & exit Barriers to entry Barriers to entry Strong barriers to entry

High

Some

Small

Some

Small Very Small

Larger Very large

Forms of Market Structures

Market Structures Perfect Imperfect Monopoly Competition Competition . Single producer/seller . Large No. of sellers and . No close substitutes buyers . Strict barrier to entry . Free entry and exit .Price discrimination is . Homogeneous Products . . possible . Perfect Knowledge . Price maker . Uniform Price .Few sellers .Few sellers Differentiated Pure Monopolistic .Homogeneous . Oligopoly Differentiated Oligopoly Competition products products . Fairly large no. of firms . Barriers to entry . Barriers to entry . Product differentiation . Interdependence . Interdependence . Free entry and free exit exists exists . Independent price policy . High cross elasticity of . Impor. of selling . Impor. of selling costs costs demand . Elements of both . Price war and . Price war and 3 rigidity monopoly and competition rigidity

Difference between Perfect Competition and Imperfect Competition

Points of Difference Number of Sellers Price Average Revenue Factors of Production AR ( Price) Utilization of Capacity Selling Costs Perfect Competition Number of sellers is more than the sellers in imperfect competition There is same price of the commodity Average revenue of all the firms are the same Factors of production are mobile AR (Price)=MC In the long run full capacity of the firm is utilized Selling cost are zero Imperfect Competition The number of sellers is lesser as There are different prices of the same commodity and close substitutes AR of different firms are different Factors of production are not mobile AR (Price)> MC There is never full capacity utilization of the firm Selling costs are quite substantial 4

Difference between Perfect Competition and Monopolistic Competition

Points of Difference Nature of firms Nature of product Taker or maker MR and AR Mobility MC and Price Selling Costs Production Perfect Competition Large no. of firms There are homogeneous products Firms are price takers MR=AR and parallel to X axis Perfect mobility of factors MC=AR (Price) No selling costs Goods are produced at optimum scale

Monopolistic Competition Fairly large no. of firms

There is product differentiation The firms are price makers MR<AR, both are downward sloping No perfect mobility of factors MC<AR (Price) There is substantial selling costs Goods are produced below optimum 5 scale

Equilibrium of the Firm and Industry under Perfect Competition

A Firm : A firm is a unit engaged in the production of a particular commodity for sale with profit. An Industry : A group of firms producing homogeneous goods is called an industry. Meaning of Firms Equilibrium A firm is said to be in equilibrium when it does not intend to change the volume of output which it is producing. The firm will be in this position when either it will be earning maximum profit or incurring minimum loss. Meaning of Industrys Equilibrium An industry is said to be in equilibrium, when the size of its output does not alter. The output of the industry consists of the output produced by all the individual firms which constitute that industry. Thus, the equilibrium of an industry is a situation where (a) all the individual firms are in equilibrium and hence do not change the level of their output and (b) where there is no incentive for the outside firms to come in and join the industry, or when there is no tendency for the existing firms to leave the industry. Firms will have no tendency to join or to leave the industry, if they are earning only normal profits.

Short-run Equilibrium of the Firm

The short-run is a period of time in which the firm can alter its output by changing the variable factors of production while fixed factors remains constant. The firm may have three situations. 1. It may earn supernormal profits. Supernormal Profit 2. It may earn normal profits and 3. It may even suffer minimum losses. C Supernormal profits: AC O
S T/ R E V E N U E

MC AR=M R MC=M R output

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Normal profits:
E P

M C

A C AR=M R

AC=AR

M C E

A C

minimum losses

P 1 P

AR=M R

Long-run Equilibrium of the Firm

Price = MC= Minimum Average Cost
LMC LAC

P1 P P2

Q2 Q Q1

Monopoly

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What is a Monopoly?
While a competitive firm is a price taker, a monopoly firm is a price maker ( or price discoverer). Traditionally a firm is considered a monopoly if it is the sole seller of its type of product. Best definition: a firm is a monopoly if it can earn super-normal profits in the long run.
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WHY MONOPOLIES ARISE

1. Lack of substitutes
Not close in terms of perceived functions
e.g. electricity

1. barriers to entry.
Key to prevent firms entering and competing away super-normal profits

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WHY MONOPOLIES ARISE :

3. Structural Barriers
o Ownership of a key resource. o Costs of production make a single producer more efficient than a large number of producers economies of scale and scope o Marketing advantages- Pricing and other strategic barriers o Financial barriers cost of capital and risk premia o Information costs market research o The government gives a single firm the exclusive right to produce some good.

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WHY MONOPOLIES ARISE?

4. Monopoly Resources
o Exclusive ownership of a key resource in practice monopolies rarely arise for this reason.

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WHY MONOPOLIES ARISE

5. Government-Created Monopolies
o Governments may restrict entry by giving a single firm the exclusive right to sell a particular good in certain markets. o Patent and copyright laws

. are two important examples of how government backs monopoly.

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WHY MONOPOLIES ARISE

6. Other structural barriers
o Economies of scale o Economies of scope

o Natural monopoly
o when a single firm can supply a good or service to an entire market at a smaller cost than could two or more firms. o A natural monopoly arises when there are economies of scale over the relevant range of output.

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Monopoly
o Monopoly is a firm that produces the entire market supply of a particular good or service. o The demand curve facing the monopoly firm is identical to the market demand curve for the product. o The demand curve is always downward sloping.
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Profit Maximisation
o Price discovery: it needs to find the intersection of marginal cost and marginal revenue. o This will give it the profit-maximising rate of output. o Only one price is compatible with the profit-maximising rate of output.

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Profit maximising under monopoly

Rs

MC
Profit maximised at output of Qm (where MC = MR)

MR
O

Qm

Q
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Profit Maximisation
o A monopoly maximises profit by producing the quantity at which marginal revenue equals marginal cost. o It then uses the demand curve to find the price that will induce consumers to buy that quantity.

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Profit under Monopoly

MC
R E V N E U E & C O S T

AC m n

p t

AR o Q MR
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Output

Losses under Monopoly

MC
R E V N E U E & C O S T

AC t p n m

AR o Q MR
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No Profit No Loss under Monopoly

MC
R E V N E U E & C O S T

AC m

AR o Q MR
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Price Discrimination
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PRICE DISCRIMINATION
o Price Discrimination
o Where a monopolist can sell at different prices in different markets o Price discrimination is not possible when a good is sold in a competitive market

o In order to price discriminate, the firm must have some market power. o Perfect price discrimination
o refers to the situation when the monopolist knows exactly the willingness to pay of each customer and can charge each customer a different price

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PRICE DISCRIMINATION
o Two important effects of price discrimination:
o It can increase the monopolists profits. o It can reduce deadweight loss.

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PRICE DISCRIMINATION
o Examples of Price Discrimination o Internationally
o International brands

o Nationally
o Theatre tickets o Airline prices o Discount vouchers o Quantity discounts o Doctors service
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Price discrimination
There are different degrees of price discrimination.
First degree: attempt to charge maximum price (bartering) Second degree: different prices for different quantities (buy in bulk, utility prices) Third degree: charging different prices in 2 (or more) markets. This is more typical of monopolies
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Monopolistic Market
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Profit under Monopolistic Market

MC
R E V N E U E & C O S T

p t

m n

AC

AR o Q MR
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Losses under Monopolistic Market AC

MC t p n m
R E V N E U E & C O S T

AR

MR
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Oligopoly Market

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Cournots Duopoly Model Augustin Cournot, a French economist, was the first to develop a formal duopoly model in 1838. The assumptions of this theory are. 1. Two firms, each owning an artesian mineral water well, 2. Both operate their wells at zero marginal cost, 3. Both face a demand curve with constant negative slope, 4. Each seller acts on the assumption that his competitor will not react to his decision to change his output and price. On the basis of this model, Cournot has concluded that each seller ultimately supplies one third of the market demand and charges the same price. While one third of the market remains unsupplied.
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DM is the demand curve and MR the marginal revenue. OM is the total produce. There are only two sellers A and B, and at present A is the only seller of mineral water. In order to maximise profits he sells OQ quantity where MC=MR at price OP1. His total profit is OP1KQ. Now B enters the market and open area for him is QM, which is half of total area OM. AT QN=NM. At N, MR=MC. His total revenue is QRLN. B supplies ON that is of the market. With Bs entry price falls to OP2. The profits of A falls to OP2RQ. This process goes on continuously. The entry of one reduces the profits of the other.

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The Cournots Duopoly Model

D

P R I C E

P 1 P 2

QUANTITY Q MRa

N MRb

M
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Price Leadership
Types of Price Leadership 1. Price leadership by a low cost firm 2. Price leadership of the dominant firm Price-Output determination under low cost Price leadership firm: Lets take the following assumptionsa. There are two firms, A and B. The firm A has a lower cost of production than B. b. The product produced by the two firms are homogeneous so that the consumers have no preference between them. c. Each of the two firms has equal share in the market. In other words, DC facing each firm will be the same and will be half of the total market demand curve of the product. Each firm is facing demand curve d which is half of the total market demand curve DD for the product. MR is the marginal revenue curve of each firm. ACa and MCa are the average and marginal cost curves of firm A and ACb and MCb are the average and marginal cost curves of firm B. Cost curves of firm A lie below the cost curves of firm B because we are assuming that firm A has a lower cost of production than firm B.

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Price & Cost

Firm A will be maximizing its profits by selling output OM and setting priceD OP, since at OM, MC=MR. H Firm Bs profits will be maximum when P it fixes price OH and sells output ON. Thus the price OP of firm A is lower than of B. Therefore, A will dictate the Price. Thus firm B is the follower.
o N

MCb

AC b MCa

ACa

D Market Dema nd d Q

M Output

MR

Price-Output determination under Dominant Price leadership Firm: The dominant firm is having a large share of the market with a number of small firms as followers each of which has a small share of the market. DD is the market demand for the product. At each price the leader will be able to sell the part of the market demand not fulfilled by the supply from the small firms.

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At price P1, the small firms supply the whole D of the quantity of the product demanded at P that price. Therefore, demand for leaders 1 B Product is zero. At price P2, the small firms P supply P2C and therefore, the remaining C P part of CT will be supplied by the leader. 2 P Like wise it goes on.
Price & Cost
3 o d MC

S m R S T U D Quantity

Kinked Demand Curve

Price & Cost
p

K h m

D/ AR output MR
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The Game Theory

The nature of the problem faced by the Oligopoly firms is best explained by the Prisoners Dilemma Game. Let us suppose that there are two persons, A and B who are partners in an illegal activity of match fixing. On a tip-off, the CBI arrests A and B on suspicion of their involvement in fixing cricket matches. They are arrested and lodged in separate jails with no possibility of communication between them. They are being interrogated separately by the CBI officials with following conditions disclosed to them in isolation. 1. If you confess your involvement in match fixing, you will get a 5 year imprisonment. 2. If you deny your involvement and your partner denies too, you will be set free for lack of evidence. 3. If one of you confesses and turns approver, and other does not, then one who confesses gets a 2 year imprisonment, and one who does not confess gets 10 year imprisonment. Given these conditions, each suspect has two options open to him: (i) to confess, and (ii) not to confess. Now both A and B face a dilemma on how to decide whether or not to confess. While taking a decision both have a common objective, i.e. to minimize the period of imprisonment. Given this objective, the
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Option is quite simple that both of them deny their involvement in match-fixing. But there is no certainty that if one denies, the other will also deny: the other may confess and turn approver. With this uncertainty, the dilemma in making a choice still remains. For example, if A denies his involvement, and B confesses (settles for a 2 year imprisonment), then A gets a 10 year jail term. So is the case with B. if they both confess, then they get a 5 year jail term each. Then what to do? That is the dilemma. The nature of their problem is illustrated in the form of Pay-Off Matrix. Given the conditions, it is quite likely that both the suspects may opt for confession, because neither A knows what B will do, nor B knows what A will do. When they both confess, each gets a 5 year jail term. This is the second best option. For his decisions to confess A might formulate has strategy in the following manner. He reasons: if I confess (though I am innocent), I will get a maximum of 5 years imprisonment. But, if I deny (which I must) and B confesses and turns I will get 10 years imprisonment. But, if I deny (which I must) and B confesses and turns I will get 10 years imprisonment. And, that will be the worst. It is quite likely that suspect B also reasons in the same manner, even if he too is innocent. If they both confess, they would avoid 10 years imprisonment, the maximum possible jail sentence under the law. This is the best conditions they can achieve under the given conditions.

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As Option s

Confe ss Den y

Confe ss A 5 A
10

Bs Options B 5 B
2

A 2 A 0

Den y

B
10

B 0

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Thank you

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