Axia College of University of Phoenix
When economists analyze the production decisions of a firm, they take into account the structure of the market in which the firm is operating. The structure of the market is determined by four different market characteristics: the number and size of the firms in the market, the ease with which firms may enter and exit the market, the degree to which firms’ products are differentiated, and the amount of information available to both buyers and sellers regarding prices, product characteristics, and production techniques (Duffy, 1993.)
Economists distinguish among four different market structures, which they refer to as perfect competition, monopoly, monopolistic competition, and oligopoly. This paper will discuss the following market structures characteristics, how is the price determined, how is the output determined, if there are any barriers and what role does each market structure play in the economy. Based on the differing outcomes of different market structures, economists consider some market structures more desirable, from the point of view of the society, than others.
BARRIERS TO NEW FIRMS ENTERING THE MARKET
The difficulty or ease with which new firms can enter the market for a product is also a characteristic of market structures. New firms can enter market structures classified as perfect competition or monopolistic competition relatively easily. In these cases, barriers to entry are considered low, as only a small investment may be required to enter the market. In oligopoly, barriers to entry is considered very high—huge amounts of investment, determined by the very nature of the product and the production process, are needed to enter these markets. Once again, monopoly constitutes the extreme case where the entry of new firms is blocked, usually by law. If for whatever reasons, new firms are allowed to enter a monopolistic market structure, it can no longer be termed a monopoly.
Perfect competition is an idealized version of market structure that provides a foundation for understanding how markets work in a capitalist economy. The other market structures can also be understood better when perfect competition is used as a standard of reference. Even so, perfect competition is not ordinarily well understood by the general public. For example, when business people speak of intense competition in the market for a product, they are, in all likelihood, referring to rival suppliers, about whom they have quite a bit of information. However, when economists refer to perfect competition, they are particularly referring to the impersonal nature of this market structure. The impersonality of the market organization is due to the existence of a large number of suppliers of the product—there are so many suppliers in the industry that no firm views another supplier as a competitor. Thus, the competition under perfect competition is impersonal.
CONTROL OVER PRODUCT PRICE
The extent to which an individual firm exercises control over the price of the product it sells is another important characteristic of a market structure. Under perfect competition, an individual firm has no control over the price of the product it sells. A firm under monopolistic competition or oligopoly has some control over the price of the product it sells. Finally, a monopoly firm is deemed to have considerable control over the price of its product.
THE ECONOMICS OF PERFECT COMPETITION
The study of the idealized version of perfect competition leads to some important conclusions regarding solutions to key economic problems, such as quantity of the relevant product produced, price charged, the mechanism of adjustment in the industry.
In addition, the total output produced under perfect competition is larger than, for example, under monopoly. To understand this, we...