Perfect Competition - Essay Example

Perfect Competition Features of Perfect competition Firms in perfect competition are Price takers. There are several firms in the Market(industry) that every individual firm generates an immaterially undersized percentage of whole industry supply, and consequently has no control what so ever to influence the price of the good. 2. Entry of new firms into the industry is completely free of barriers. 3. All the firms in the industry produce undifferentiated products. (The product is identical.) 4. Sellers and Buyers have perfect awareness of the market. Which mean producers are completely conscious of the prices, costs and market prospects. Similarly Buyers are fully conscious of the worth, quality and accessibility of the good. (Sloman, p. 157) Typical goods or services produced under perfect competition with Examples Types of the services and commodities produced in perfect competition are undifferentiated (homogenous) i.e. the commodities produced are alike and because of this cause there is Promotion, marketing or publicity. Though it is not possible for a firm to be perfect model of perfect competition but there are some that are nearer for example; Stock Market, as there are lots of purchasers and vendors, no obstructions to entry and the good is not differentiated. (Mahanty, p. 264) Similarly in the case of agriculture there are many consumer and producers, product is undifferentiated (a carrot is carrot where ever you go) and prices are resolute by the market. Barriers to entry There is absolute sovereignty of admission of new firms into the Market. Firms already operating in the market are not capable to prevent new firms enter the business. Starting a business takes time, therefore freedom of entry concerns in the long run. An extension of this assumption is that there is complete factor mobility in the long run. If earnings are elevated than somewhere else, resources will be liberally attracted into that business. Similarly if wages are elevated than for comparable labor somewhere else, employees will liberally shift into that business and will face no hurdles. (Schnaars, p. 31) Economic Profits Made by the Firms in Perfect competition If the firm’s average cost (AC) curve (which incorporates normal profit) hangs beneath the firm’s average revenue (AR) curve, the firm will make abnormal profit. Abnormal profit for each unit at Q1 is the vertical gap amid AR and AC at Q1. Entire abnormal profit is shown by the rectangle P1ABC in Figure 1.1. There is also a situation when the firm cannot earn a profit at any level of production. This condition would arise if the firms AC curve were on top of the AR curve at each and every point. This is shown in figure 1.2, where the industry price is P2.In this situation, the position where MC curve intersects MR curve signifies the loss minimizing position .The total of loss is represented by the rectangle P2FED. (Parkin, p. 240) Figure 1.1 and Figure1.2: Adopted from “Market Structures” Pricing strategies in Perfect competition and Price Elasticity of demand Pricing with no market control (perfect competition) is resolute in the industry (Market) by the meeting point of supply and demand. At this price the firm countenances a flat (horizontal) demand curve. See figure below, it demonstrates that the firm is able to trade all it can manufacture at the Industry (market) price (P1), but not anything at a price over P1. Which denotes that firm in Perfect Competition countenances perfectly elastic demand curve. Figures Adopted from “Market Structures” Therefore, all firms are price takers affirming their price at the Industry price of P1. Demand Curves of All firms are perfectly elastic. For an instance assume a firm might lower its price beneath P1 to seek and take some industry share from their rivals, but there is no need because all firms can trade as greatly as they desire at price P1. Advantages and Limitations of operating in a Perfect Competition Advantages: 1. Price equals marginal cost. This has significant propositions for the distribution of capital amid different goods. 2. Perfect competition among firms will perform as an urge to efficiency. 3. The aspiration for abnormal profit and the aspiration to evade loss will persuade the growth of new technology. 4. As there is no requiring of advertising this will escort to low AC curves and consequently to an efficient utilize of nation’s scarce resources. 5. The customers gain from low prices. (Upton. P. 37) Limitations: 1. There is no assurance that the commodities produced will be circulated to the public in rightful proportions. 2. Production of particular commodities may escort to different uninvited side effects, for example pollutions. (Lancaster, p. 273) Monopolistic Competition Features of Monopolistic competition 1. Numerous firms challenging (competing) with each other. 2. Unobstructed autonomy of admission of new firms. 3. All firms manufacture a distinguished (differentiated) good. 4. Firms are facing down slanting but comparatively elastic demand curve. Nevertheless firm encompass some power over price. (Miller, p. 613) Typical goods or services produced under Monopolistic competition with Examples Contrasting perfect competition commodities manufactured in monopolistic competition are differentiated; every firm manufactures a good or offers a service in some manner dissimilar from its competitors. This is recognized as the hypothesis of product differentiation. Petrol Stations, restaurants, hairdressers and builders are all models of monopolistic competition. All these examples come into the structure of Monopolistic Competition because we know that goods produced by these firms are differentiated and there is no restriction for the entry of new firms. (Kohler, p.371) Barriers to entry Similar to perfect competition there is autonomy of entrance of new firms into the business. If some firm desires to set up in trade in this Industry, it is liberated to do so. Since all firms produces an immaterially tiny contribution of the market, and consequently its measures are improbable to influence its competitors to any great degree. (Miller, p. 641) Economic Profits Made by the Firms in Monopolistic competition Just like other market structures, to achieve maximum profit a firm must trade at an output where MC=MR. This is shown in figure 2.1. It is achievable for a monopolistically competitive firm to achieve abnormal returns in the short run. This is shown as the shaded area. Returns (profit) in the short run is dependent on the power of demand i.e. situation and elasticity of demand curve. Figure 2.1: Adopted from Market Structures On the other hand in the long run new firms will come into the business. These new entrants will catch some clients away from firms already in the market ,forcing there demand to reallocate to the left, and will prolong doing so as long as abnormal profits stay and consequently new firms prolong entering. (Parkin, p. 288-9) This cycle will stop when long run equilibrium is achieved and only subnormal profits stay as demonstrated in figure 2.2 Figure 2.2: Adopted from Market Structures Pricing strategies in Monopolistic competition and Price Elasticity of demand Dissimilar from perfect competition, though, every firm manufactures a good or offers a service in some manner dissimilar from its competitors. As a consequence it can elevate its price devoid of losing all its clients. Hence its demand curve is down slanting, although comparatively elastic specified the huge number of rivals to whom clients can roll. There are also non-price strategies, it engages two main essentials: product development and advertising. It intends to manufacture a good which will sell good and has an inelastic demand curve because of the lack of near replacements. Another approach is advertising, which is to notify the customer of the existence and accessibility of the product and also to purposely convince the customer to buy the product. (Curran, p. 231) Advantages and Limitations of operating in a Monopolistic Competition Advantages: 1. The nature of industry might allow some economies of scale to be gained. 2. Customer might gain by having a larger range of goods to select from. 3. Every firm may possibly gratify some exacting necessity of particular customers. (Stein, p. 75) Limitations: 1. Fewer will be traded and at an elevated price. 2. Firms might not be working at the least cost point. 3. Information regarding good may be unsatisfactory. (Graafland, p. 44) Works Cited Curran, John. Taking the Fear out of Economics, Cengage Learning EMEA, 1999, p. 231 Graafland, J. J. Economics, Ethics and the Market: Introduction and Applications, Routledge, 2007, p. 44 Kohler, Heinz. Intermediate Microeconomics: Theory and Applications, Scott, Foresman, 1982, p. 371 Lancaster, Kelvin. Introduction to Modern Microeconomics, 2nd Edition, Rand McNally, 1969, p. 273 Mahanty, Aroop K. Intermediate Micro-Economics, with Applications, Academic Press, 1980, p.264 Market Structures, Economics: A-Level, Accessed on 18 April, 2009 from http://www.s-cool.co.uk/alevel/economics/market-structure-1.html Parkin, Michael. Microeconomics, 8th Edition, Pearson/Addison Wesley, 2007 Schnaars, Steven P. Marketing Strategy: Customers and Competition, 2nd Edition, Revised, Free Press, 1997, p. 31 Sloman, John. Economics, 6th Edition, Hall, 2006, p. 157 Stein, Jerome L. The Globalization of Markets: Capital Flows, Exchange Rates and Trade Regimes, Springer, 1997, p. 75 Upton, Martin. The Economics of Tropical Farming Systems, 3rd Edition, Cambridge University Press, 1996, p. 37 Miller, Roger L. Economics Today: The Micro View, 11th Edition, Addison-Wesley, 2000. Read More