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Topic 3

Market Structures
Some Basic Ideas
Market for a product:

- The set of people


including
(a) actual and Market structure:
potential buyers - How competitive the
(b) sellers environment is as
determined by the
number of sellers
Different Kinds
of Market Structure
1: Perfect Competition
• Local Market for vegetables
• Many sellers and many buyers
Almost identical prices for each vegetable (each
day)

• The Bhel Puri Walas


Many sellers and many buyers
All sell Bhel for Rs.10/- and Batata for Rs. 15/-

• Market for non-branded local made


electronic goods
Many sellers and many buyers
Almost identical prices for each product
Description:

1. Many sellers
2. Many buyers
3. Every seller sells identical (homogenous)
products.
4. Resources are perfectly mobile.
5. Information on price, quality etc. freely
flows between buyers and sellers.
6. Free entry and exit of sellers
The description of perfectly competitive
market is an extreme one.
For example ‘Complete free flow of
information’ is almost impossible in reality.
But in such markets flow of information is
smoother than in other markets.

the perfect competition model helps to


understand / predict some real world
behaviors in markets with large number of
sellers and buyers.
If there are many sellers selling
homogenous products, then each seller
accepts the going market price.

The reason is as follows…..


Say the market price for good X is Rs.10/-

• If a seller X charges Rs.11/- (that is, any thing >


Rs.10/-) then he looses all buyers. So He does not raise
price above R.10/-.

• If a seller X charges Rs.9/- (that is, anything <


Rs.10/-) then all buyers buy from him.
But then all other sellers loose their buyers. So they will
not sit back. Rather they will also bring down their price
to Rs.9/-.
So, every one charges Rs.9/- and every one, (including
our seller X) earns a lower profit.

Should seller X lower the price?... No, as lowering


the price only reduces his profit.
So, every firm in the perfectly competitive
market accepts the going market price.

We shall come to see why the market price of


the product settles at P* (Rs.10/-), later.
How much the perfectly competitive firm
produce?

The firm chooses to produce quantity such


that profit is maximized.

…. And that depends on the price and the


costs
Some Characteristics of perfectly competitive
markets:

• Little profit earned by the supplier.


As soon as profit increases, it invites new sellers in the
market. Supply rises and price falls to bring price profits
down.

• Price charged is low.


• Consumers benefit most from this market
• Variety of products are also low.
2: Monopoly
• Railways
Many buyers… but
1 seller selling different varieties of products
Sometimes different prices charged from different
buyers for one product

• Trade between Britain and India in the first 100


years of British Rule:
Single seller of British goods – The East India Company
Seller had the ultimate control over prices.
Description:

1. One seller
2. Many buyers
3. Barriers to entry for new sellers
4. The product has no substitutes
Why monopoly exists? Why does a second
firm not enter the market?

1. One firm may control the entire supply


of raw materials.
2. Product may require a technology that
may be patented by a firm
3. Increasing returns may operate for a
longer range of output.
4. Monopoly established by law.
Some Characteristics of Monopolistic markets:

• High profit earned by the supplier.


Even if profit is high, since entry is restricted

• Price charged by profit maximizing monopolists is high


compared to cost.
• In case of a government monopoly with a purpose of
public welfare both price and profit levels are low.
• Producers make artificial scarcity to raise the price.
• Consumers suffer because of high price.
• Price discrimination
3: Oligopoly
Description:

1. Few seller
2. Many buyers
3. Product may be homogenous or
differentiated
4. Entry of new firms is possible but relatively
difficult
5. Decisions on price, quantity, quality or
variety, advertising are taken on the basis
of strategic interaction with other players.
• Market for Aerated Soft Drinks
2 or 3 sellers and many buyers
Identical products
Identical prices charged for each variety
• High-end Fashion Industry
A few fashion designers (big names)
Differentiated products
Different prices

• Automobiles Market
A few big firms sellers and many buyers
differentiated prices
Some Characteristics of Oligopolistic markets:

• High profit earned by the supplier.


• Collusion between rival firms
• Producers make artificial scarcity to raise
the price.
• Consumers suffer because of high price.
4: Monopolistic
Competition
Description:

1. Many seller
2. Many buyers
3. Product may be homogenous or
differentiated
4. Free entry and exit of firms
5. Variety of products is almost
unlimited.
• Restaurants
Many sellers and many buyers
differentiated products
for each variety of food differentiated
prices charged by different sellers
depending on variation / ambience etc.

• Middle Range Leather goods


Many sellers
Differentiated products
Different prices depending on the design
Some Characteristics of Monopolistically Competitive
markets:

• Relatively low profit earned.

• Differentiation in Quality and Variety