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- Microeconomics - Essay Example

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There are two different market types of market which are perfect competition and imperfect competition. In a perfect competition there are very many firms involved competing with…
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Essay - Microeconomics
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Download file to see previous pages An imperfect market on the other hand is composed of three subtypes which are monopolistic competition where many firms compete, oligopoly where there are few firms competing and a monopoly where a single company dominate the market. In a monopolistic market, firm can charge at a higher price in the long run with a restricted output and is therefore inefficient. There are also barriers to entry in the market to protect the market share of the firms. Collusions are also common to maximize profits.
These differences between perfect competition and monopolistic competition has social welfare implications. In a perfect competition, marginal revenue is the same as price and this reflects the optimum utility of goods as price is also equal to marginal cost. Supply also meets the demand at the most efficient level. This is illustrated in Figure 1 where supply and demand achieved equilibrium.
The case is different in a monopolistic competition where there are few or no competition. The tendency of the firm in a monopolistic market is to restrict production as can be shown in Figure 1 to drive prices up as represented by P1. The market then becomes inefficient because firms are not producing at a minimum cost where price is much higher than the cost of production. This has an implication in social welfare as inefficiency would mean requiring more resources to achieve the same utility of good thereby increasing the social cost.
This is not the case in a perfect competition where marginal revenue is the same as price. In the diagram in Figure 2, a competitive market achieves equilibrium where demand is met with supply (MC and AR intersect). It meant that the social service can be had at its cost and is therefore the most optimum level where the needed service is appropriately supplied without waste.
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