University of Phoenix
The structure of a market is defined by the number of firms in the market, the existence or otherwise of barriers to entry of new firms, and the interdependence among firms in determining pricing and output to maximize profits. This paper covers the following: the advantages and limitation of supply and demand, the characteristics of each market structure, the barriers to entry and how organizations in each market structure maximize profits. Markets are the heart and soul of a capitalist economy, and varying degrees of competition lead to different market structures, with differing implications for the outcomes of the market place.
The goal of a firm is to maximize profits, to get as much for the firm as possible. In the perfect competition, each firm maximizes profits where marginal revenue (MR) equals marginal cost (MC). That is, the additional revenue from producing additional quantity equals the additional cost incurred in producing that quantity. At an output where MR is greater than MC, increasing production increases profits. If MR is less than MC, decreasing production increases profits. Therefore, MR=MC is the profit-maximization condition. In perfect completion, the price is a given for each firm, P=MR. This is because the fixed price per unit is the additional revenue the firm can expect to earn by selling additional quantity. The firm’s profit- maximization condition becomes P=MR=MC. In the long run, however, all costs are variable. All firms in a perfectly competitive market make zero economic profit in the long run, because if profit was being made, more firms would enter the market and market prices would decline until all firms made zero profit.
These elements are perfect competition, monopolistic competition, oligopoly, and monopoly. 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. Each of these market structures describe a particular organization of a market in which certain key characteristics differ. The characteristics are: (a) number of firms in the market, (b) control over the price of the relevant product, (c) type of the product sold in the market, (d) barriers to new firms entering the market, and (e) existence of non-price competition in the market.
The number of firms in the market supplying the particular product under consideration forms an important basis for classifying market structures. The number of firms in an industry, according to economists, determines the extent of competition in the industry. Both in perfect competition and monopolistic competition, there are large numbers of firms or suppliers. Each of these firms supplies only a small portion of the total output for the industry. In oligopoly, there are only a few (presumably more than two) suppliers of the product. When there are only two sellers of the product, the market structure is often called duopoly. Monopoly is the extreme case where there is only one seller of the product in the market.
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 type of products sold in the market is also a key characteristic. The extent to which products of different firms in the industry can be differentiated is also a characteristic that is used in classifying market structures. Under...