Introductory Market Economics - Case Study Example

Answer An market in economical terms is any place where the exchange of goods and services takes place between buyers and sellers of the market, the market in economics sense need not be a physical place it can be a virtual meeting place where exchange of goods and services takes place, for example the internet based website ebay is in itself a market place, a virtual one. Having defined the market, there is a definite need to explain what determines how a market operates and what kinds of markets exist, economically speaking. The factors that determine the category into which a market falls are basically the number of buyers and sellers, the information that each of them have about the each other and the general market structure and last but not the least what kinds of profits the buyers in the market experience and whether or not there are barriers to entry. Economists basically realize 4 kinds of markets i.e. perfect competition, monopoly, oligopoly and monopolistic competition. Under perfect competition the firms are numerous and the buyers have perfect knowledge of the current market situation and hence the sellers are known as price takers because no one buyer or seller can influence the market to charge their desired market price and hence have to sell products at the price where the market tends to clear. In this form of competition there are only short term profits because there are virtually no barriers to entry and hence when the demand increases there are supernormal profits to be earned for a short period of time because when other suppliers see that the industry is earning super normal profits they tend to move into the market to get their share of the market, this tends to increase the supply of the industry and the profit levels tend to decrease as more and more suppliers move into the industry. This type of earning of a share of the super normal profit is known as hit and run competition because suppliers move in when the industry is earning super normal profits and leave as soon as the super normal profits are not earned any more due to increased supply. In conclusion a firm in perfect competition is a price taker because of the perfect knowledge and the number of firms and the output decisions are influenced by the demand of the goods and the number of suppliers. Monopolies consist of only one firm in the industry which is the sole supplier of the goods for that particular industry. Such a situation emerges when the firm has total control over the resources that are needed to produce that particular good in this case it is known as a 'natural monopoly'. The other scenario could be that the firm could have set very high or very rigid barriers to entry and hence no other firm can break through these barriers to gain entry into the industry. The monopolistic firm can control either of the two things at a time a) the price of the good b) the quantity that they wish to sell The monopolist cannot control both because he cannot control demand, if he wishes to sell the product at a certain price then the demand curve for that industry or that good would determine what quantity of goods are sold at that particular price and if he wishes to sell of a particular quantity then the demand for that good would establish the price at which the good would clear the market. The monopolist power to influence price depends upon two factors: a) the number of substitutes b) the power to restrict the entry of the firms into that particular industry Monopolistic competition is one where there are a large number of firms in the industry producing similar products but no two products are the same hence the concept of brand image and quality is catered to in this market structure and hence products are differentiated, the firms are price makers. In order to change the price firms will have to tinker with the level of quantity. The monopolistic competition market earns normal profits in the long run because there are very few barriers to entry into the industry and hence only normal profits are earned in this kind of industry. Oligopoly is a market structure in which firms are interdependent i.e. the strategy and the pricing of one firm influences the pricing and the strategy of other firms. There are very few firms in the industry usually producing similar products and there are barriers to entry which to lead to supernormal profits in the long run. As the firms are interdependent the prices tend to be sticky even when costs and demand change because other firms might not change their strategy or pricing. These are the market structures but one thing that must be remembered is that there are no 'pure' markets structures in the world mostly are complex systems and most cannot be pin pointed as being solely monopolistic competition or perfect competition. Answer 2. The definition for an oligopoly or rather the characteristics as mentioned before is that there are a very few firms operating in the industry and hence the decision of one firm influences the general as well as the pricing strategy of the other firms, firms usually produce similar products and because of this the interdependence of the firms the prices in the industry tend to be sticky and firms might even practice control over to whom they sell their products. Collusions are basically illegal but there are two types of collusions, one is where the collusion is open and declared and every one knows that its exists, the other one is known as tacit collusion where there is an informal agreement between the firms of the industry to collude. Keeping this definition of the oligopoly market structure in mind it is quite obvious that the cement industry operates as an oligopoly in the form of an open collusion in the form of a cartel and decide the policy with mutual agreements hence showing a high level of bonding due to interdependence and no product differentiation because they all basically produce the same kind of cement at the same price which is calculated as the average of the three top market share holders. This form of pricing is also known as 'average pricing method' or if there is only one leader whose price is being followed then it is known as 'leader pricing method'. Also the fact that they have decided not to sell to a particular type of customers shows that they are exercising their power as a cartel because they do not sell to a particular kind of a buyer and that shows that they are restricting their supply into the market and hence tinker with the price in this way. Answer 3. There are a various reasons so as to why collusion would break and more often than not collusions do not last long because there are very strong reasons for one not lasting. First of all every firm has different types of costs structures, some might be paying higher rent, some might be paying higher wages, for some the costs of obtaining raw materials or the costs of transportation might be high, so on and so forth. The point here is that when a collusion is formed it is decided that firms will only charge a certain price for the product, although some firms might initially agree but when the costs structures change they might feel that the collusion is no more favorable to them and would hence want to move out from the collusion, when one member moves out of a collusion, others will also not be willing to be a party to that collusion any more because each firms pricing effects the pricing and the sales of the other firms in question. Another reason for the break down of collusion might be that market conditions change over time and hence firms might not be able to form a collusion for long or when market conditions change the firms might want to re-negotiate the terms and conditions of the collusion which will not prove to be easy because one firm will have to let go of the advantage that it has gained due to the change in market conditions. The last but not the least reason for the break down of collusion is sheer greed on part of some of the firms, as soon as some firms sense that it would be beneficial to them to break this cartel in any way they would go for it and hence cause the cartel to break down. The reason for this abandonment of the cartel might be to gain a larger chunk of the market share by a different pricing or market strategy. These are some of the reasons why a cartel might break over a period of time and it is not necessary that only one reason would trigger the collapse of the collusion but rather a series of events might trigger the break down in which case the collapse would be much more predictable, tacit collusions are more likely to break down because there is no formal collusion in this type of a collusion. References 1. sloman, j. (1997). Economics. McGraw hill. 2. Stanlake, G (1995). Introductory Economics 3. nordhaus, S (2000). Economics. mcgraw hill. Read More