Market structure Essay Example | Topics and Well Written Essays - 1750 words

Market structure - Essay Example According to Baumol and Blinder (2011 p. 200), such a market must satisfy four conditions. First, the market has many small firms and customers such that no participants are large enough to have market power to affect the price of a product. If one producer reduces the price, there would be no effect on the market since the producer is negligible compared to the whole market. This condition rules out the possibilities for collusion or trade associations; each firm acts independently (Tucker, 2010). Secondly, all the suppliers sell a homogeneous product; there are no close substitutes (McEachern, 2011). As such, the consumers buy products from any seller since the products are the same thus competition is very powerful. The demand curve is perfectly elastic hence if a seller increases the price of the product, customers shift to buy competitors products. The firms have no choice but to meet and not exceed the price charged by others hence are â€Å"price takers† (Baumol & Blind er, 2011 p. 201). Thirdly, there are no barriers to entry or exit in the market. Barriers to entry may be in form of legal, technical or cost advantage but in a perfectly competitive market, any seller willing to enter the industry can do so to take advantage of economic profits and provide an identical product (p. 200). The new entrant is at the same level with the old firms; there are no advantages for existing firms so the new firm can compete effectively. Lastly, the infinite buyers and sellers have perfect information regarding the price and quality of products in the market. As a result, there is no need for advertising as it would have no effect; the customers know where to buy their products and besides, all products are identical and the price is determined by the market. According to Landsburg (2011), in a perfectly competitive market there are no transaction costs and perfect factor mobility. This enables the market to adjust accordingly in case of changing market conditi ons. Q2: Price and Output Decisions of a Perfectly Competitive Market As noted above, there are infinite buyers and sellers in the market such that none has an effect on price. The price in such a market is determined by forces of supply and demand hence the sellers are â€Å"price takers†. Sexton (2012) argues that since the market price is given, the only decision that firms have to make is determining the level of output that would maximize profit. The question firms should ask themselves as asserted by McEachern (2011 p. 176) is â€Å"how much should I produce?† He notes that firms aim at producing a quantity at which total revenue is higher than total cost by the greatest amount. The profit maximizing output in a perfectly competitive market occurs where marginal revenue (MR) is equal to marginal cost (MC); MR=MC therefore the firms are seen to allocate resources efficiently. A perfectly competitive firm has a horizontal demand curve thus it can sell as much quant ity as it wants at the given market price. Whether the firm increases its output or not, the price remains the same as there are many sellers. It also does not have to reduce the price so as to attract demand as it would lead to loss of revenue for the firm (Baumol & Blinder, 2011). Since total revenue is the output multiplied by the price, the average revenue is the same as price. The firm is also a price taker hence the marginal revenue is equal to

Explain why Perfectly Competitive Industries are Considered to be Essay

Explain why Perfectly Competitive Industries are Considered to be Efficient in the Short and Long-Run - Essay Example There are pros and cons to both yet all reside on one opinion that the key to efficiency is competition. In order to present a concrete conclusion, we have to get into a profound discussion so as to compare pros with cons of perfectly competitive market and also discuss the variance it has with monopoly structure. Perfect Competition and Efficiency: According to Adam Smith perfectly competitive market works under â€Å"invisible hand† in which each individual in society seeks out for the personal interest. However, in order to preach it, he/she has to trade off his belongings with the individual who is willing to get benefited from it. This ultimately leads to benefit of society intentionally or unintentionally. Theoretically; there are many buyers and sellers, identical products, no barriers to entry as well as exit (Thomas E. Woods, 2011). Buyers and sellers both have the perfect information and hence they are the â€Å"price takers† which results in a perfectly elast ic demand curve. This means that if a firm wants to maximize its profit it should sell its product at market price. This means that efficiency is required to keep the cost down and increase the net profit margin. Efficiency is realized when all opportunities to make someone better off without making anyone worse off are exhausted. It is also called ‘Pareto Efficiency’ in most of the global conceptions (Books Llc, 2010). Under ideal conditions in a perfectly competitive market or any other market which is functioning well, the market equilibrium maximizes the difference between the benefits society gets from the good and services and what it costs society to produce. A perfectly competitive market would always focus on the maximum net social benefit. Benefit is not only considered by the monetary return achieved from investments but also the implicit gain realized by the society as a whole. An efficient allotment of resources is accomplished if increment in societyâ€⠄¢s overall level of satisfaction by more of one good and less of another good is not possible. This is why competition is preferred as it mostly leads to favorable outcomes. Competition urges players to perform better than their rival which ultimately leads to better market mechanism. Such efficiency is realized by entities if the price of a good is equal to the marginal cost of the product. An elaboration of the above mechanism is as follows: We know from the above discussion that market supply shows the marginal cost of society of producing the good or service. Moreover, the demand curve is the marginal benefit to society from consuming the good or service. Therefore, the net social benefit would be maximized if the marginal social cost is equal to the marginal social benefit (Tucker, 2010). Considering the cost allocated to society, the market supply is the horizontal sum of each firm’s MC curve or in other words it shows what it costs to produce one additional unit of go od. Economist says that if all the costs are digested by the firms, then supply equals the marginal social cost (Lambert M. Surhone, 2010). On the other hand, economists’ measure benefits in terms of the willingness of consumers to pay therefore, the market demand would be a representation of the total sum of willingness to pay for a unit of good at each level of consumption. The market demand mechanism focuses on maximization of social benefit illustrated below: All consumers whose WTP (willingness to pay) exceeds P will buy a good (or more