Perfect Competition and Food Industry - Case Study Example

Perfect Competition, Food Industry Introduction A perfectly competitive market is characterized by certain features which makes it quite distinct inmaking competitive analysis of a firm or industry. Firstly, it must be taken in account that a perfectly competitive market is characterized by a large number of buyers and suppliers. Moreover, the firms present in a competitive market are found to produce identical products, which act as substitutes from the consumer’s point of view. The consumers have an added advantage in a competitive market scenario in getting ready information about the prices of the products that each firm produces which helps them to decide on the purchase. In regards to the accessibility to resources the firms in a competitive market scenario share equal opportunity to optimally use such for development of its technology and production processes. The market being perfectly competitive becomes an open market for easy entry and exit of newer firms and suppliers which in the long run affects the profitability of the firm. (Perfect Competition-The Economics of Competitive Markets, n.d.). The paper in this connection endeavors to analyze the position of the fast food industry from the point of view of perfect competition. In that, the company chosen for analysis is McDonald’s. McDonald’s has a long history of being the leader in the fast food industry serving quality food products sine 1955. In its long run, it has helped in catering to customers by producing newer food products like chicken nuggets. (McDonald’s, n.d.). Profit and Loss Analysis of a Competitive Market Industry and Monopoly Market in the Short-Run The price set by industries in a competitive market situation in a short run situation depends on the interaction of the market demand and market supply. The market price obtained by the intersection of market demand (MD) and market supply (MS) curves is found to be constant for the total number of units sold by the individual firms. Thus, it becomes the prerogative of the different firms to set their prices depending on the market price (P) obtained. Moreover, the market price being homogeneous to the number of units sold also qualifies the Average Revenue (AR) of the different firms to become equal to the Marginal Revenue (MR) of theirs in the industry. Profit of the firms is decided at the point where the Marginal Revenue of the firm equates the Marginal Cost. This profit obtained is known as the normal profit of the firm or industry. It is the optimal profit required by a firm for subsistence in the industry. However, above normal or super-normal profits (SP) are obtained by a firm in the area where the Price is greater than the Average Cost of the industry (AC). The above situation is graphically represented in figure 1. However, for the given market price obtained by the intersection of the market demand and market supply curves the firm may also happen to incur a loss if the Average Cost Curve of the firm goes beyond the market price obtained. The same is graphically represented in figure 2. Moreover, keeping all other parameters constant the demand for the products in the industry can increase with a corresponding increase in the price of the same. This increase in the demand for the product in the industry will also amount to a change in the nature of supply for the product by the firm. This situation can be graphically represented in figure 3. The Marginal Cost curve (MC) acts as a supply curve of the firm. With the increase in market demand from MD to MD1 the price changes from P to P1. Correspondingly, the Quantity supplied by a firm increase from Q to Q1. Thus, the above normal profit of the firm also is found to increase based on the intersection of the Price points P and P1 with the Average Cost curve. (Perfect Competition-The Economics of Competitive Markets, n.d.). If the firm had been the sole producer of the product in the market, it would have characterized a monopoly market. In that, the firm takes the market demand curve to be its own demand curve with downward sloping Marginal Revenue and Average Revenue Curves. However, the producer would not be able to fix a price for its product, which would not be welcomed by the consumers. The Equilibrium point would be the intersection of the Marginal Revenue (MR) and Marginal Cost (MC) curves. (The Monopolists Demand Curve-Constraints on Monopoly, n.d.) It is graphically illustrated in Figure 4. In the graph the Average Cost is given as the Average Total Cost curve or the ATC curve. The Average Revenue Curve is shown as the AR Curve.  Figure 1  Figure 2  Figure 3  Figure 4 Keeping in tune to the above analysis it is found that McDonald’s in China has increased it s minimum price points from 0.5 yuan to 1 yuan for its products. This had occurred due to rise in the price of raw materials required to produce such products. However, the firm also cites an increase in demand for its products owing to which more number of McDonald’s outlets is being planned to being opened. Owing to the rise in prices for the products corresponding to the rise in demand the quantity supplied would also increase. This will eventually increase the profits of the firm. (Kwok, 2010). Utility Analysis of a firm’s product in a Perfectly Competitive Industry and Monopoly Market It is found that a large number of buyers and sellers freely competing against each other characterize a perfectly competitive market. The buyers compete to draw the maximum utility from the goods and services procured while the producers compete to gain the best on the economic utility of the factors of production used. However, the existence of a large number of buyers and sellers the market price is not governed by a single producer or buyer. The buyer in order to gain the maximum or optimal utility goes on procuring the goods and services to the point where the consumer’s demand referred to as the Marginal Private Benefit intersects the market price for the product. Correspondingly, the manufacturing firm is found to continue the production until the point the Marginal Private Cost of the firm intersects the market price of the product. The above discussion can also be represented in a graphical fashion in Figure 5. The, Marginal Private Benefit (MPB) is regarded as the Consumer Demand while the Marginal Private Cost (MPC) as the Supply factor in the industry. The, Marginal Private Benefit of the consumer is a downward sloping demand curve which reflects the Law of Diminishing Marginal Utility obtained by more and more purchases. Similarly, the firm by employing more and more factors of production leads to Diminishing Factor Productivity, which is reflected by the Supply or the Marginal Private Cost Curve. In the graph it is found that the triangle PAC represents consumer surplus while triangle PBC, Producer’s Surplus. (Santerre & Neun, 2009. pp. 212-213). However, in case of a monopoly market both the consumer and producer’s surplus are found to take shifts from their original status. It is because the manufacturer in the monopoly market tends to charge a higher price from the consumers. The case of the monopoly market in regards to utility analysis can be given in Figure 6. The Consumer Surplus is found to shrink from PAC to P1AM. However, the producer with the rise of Price from P to P1 the producer’s surplus counters an increase from area PCB to P1MFG. (Santerre & Neun, 2009. p-220).  Figure 5  Figure 6 The consumer utility paradigm in case of McDonald’s is also found to be of a diminishing utility pattern. It is because as one consumes more and more of the food products in a certain price range the effect of benefit obtained from further consumption of the items goes on declining. To counter this cause the fast food industries like McDonald’s goes on to innovate newer products like Chicken McNuggets to attract consumer attention. (Savvides, n.d.; McDonald’s, n.d.) Market Structure Analysis of a Perfectly Competitive and a Monopoly Market The case study of McDonald’s show that the fast food manufacturing leader is placed in a highly competitive market with large number of sellers and buyers. Moreover, the competitive firms produce equivalent substitutes for the products like Hamburger at McDonald’s. it is found that in its total 30,000 branches spread along 120 countries, 40 million customers render a footfall on an average day. The major competitors of McDonald’s are identified to be are Kentucky Fried Chicken (KFC) and Burger King. In regards to a monopoly market the firms can have natural, technological and geographical monopoly. In natural and geographical monopoly, the firms are the sole producers of the products and have sole access to the resource base of a region. However, for technological monopoly occurs when a firm has invented a process or technology to obtain economies of scale in production. (O’Connor, 2004. pp-117-118; 119-120; Vijayarani, n.d.) Conclusion McDonald’s the leader in the fast food industry operates in a perfectly competitive market. Thus it has little access to influence the market demand and price of the fast food products. Many competitors are cropping up to deliver fast food products, which act as substitutes to attract potential customers. Hence, price determination at McDonald’s is made keeping an eye over the market. References 1. “Perfect Competition-The Economics of Competitive Markets”, (n.d.) tutor2u.net. Retrieved on November 23, 2010 from: http://tutor2u.net/economics/content/topics/competition/competition.htm 2. “The Monopolists Demand Curve-Constraints on Monopoly”, (n.d.). tutor2u.net. Retrieved on November 23, 2010 from: http://tutor2u.net/economics/content/topics/monopoly/monopoly_profits.htm 3. “McDonald’s”, (n.d.). mcdonalds.com. Retrieved on November 23, 2010 from: http://www.mcdonalds.com/us/en/our_story/our_history.html 4. Kwok, D. (2010), McDonald’s price rise points to inflation pressure, Reuters. Retrieved on November 23, 2010 from: http://www.reuters.com/article/idUSTRE6AG10P20101117 5. Santerre, R. & S. Neun. (2009). Health Economics. Cengage Learning. 6. Savvides, S. (n.d.), Consumer Behaviour. Retrieved on November 23, 2010 from: http://www.scribd.com/doc/36132202/Consumer-Behaviour 7. O’Connor, D. (2004). The Basics of Economics. Greenwood Publishing Group. 8. Vijayarani, N. (n.d.). McDonald’s Business Analysis. Retrieved on November 23, 2010 from: http://ezinearticles.com/?McDonalds-Business-Analysis&id=687438 Read More