Market Structures

Perfect Competition

Perfect Competition is a model used as the starting point to explain how firms operate

It is a theoretical model based upon some very precise assumptions

(Use agriculture as an example of perfect competition in exam question)


Assumptions of perfect competition

The assumptions (exam questions sometimes ask to elaborate on two of these)

Case Study: Wheat European Union

Perfect competition graphs

Image result for firm in perfect competition short run

Perfect competition in the short run

Short run- abnormal profit diagram

 Image result for perfect competition short run


Short run - losses diagram

Image result for perfect competition short run loss

Why are losses/abnormal profit not possible in long run for perfect competition

If firms are making abnormal profit other firms will enter the market and will, therefore, increase the supply of the product and drive the price down.

Movement from short-run abnormal profit to long-run normal profit diagram :

Image result for perfect competition short run abnormal profit to long run normal profit

Note: the reverse occurs for short-run losses

Some firms will leave the industry due to loses which will not have an effect because firms are small.

As more firms leave the industry, it is unable to achieve normal profits, so the industry supply curve will shift to the left.

Long run equilibrium in perfect competition

In long run, firms will make normal profit

Image result for perfect competition long run

Productive and allocative efficiency in perfect competition

Productive efficiency: A firm is said to be productively efficient if it produces its product at the lowest possible unit costs (average cost) MC = AC

Allocative Efficiency: Allocative efficiency occurs when suppliers are producing at the optimal mix of goods and services required by the consumers

Marginal cost: This reflects the cost to society of all the resources used in producing an extra unit of a good including the normal profit required for firms to stay in business

Comparison of long run and short run in perfect competition

TIme period

Abnormal Profits


Allocatively efficient

Productively efficient

Short Run





Long Run







A market structure characterized by a single seller, selling a unique product in the market. In a monopoly market, the seller faces no competition, as he is the sole seller of goods with no close substitute. T

Assumptions of a Monopoly

What firms are monopolies?

Whether a firm really is a monopoly depends upon how narrowly we define the industry.

For example, while Microsoft may be the only producer of a particular kind of software, it does not have a monopoly on all software.

Examples of monopolies:

Strength of Monopoly Power

The strength of monopoly power possessed by a monopoly will really depend upon how many competing substitutes are available.

If you as a consumer NEED to buy a product and only one company sells this (as is often he case with pharmaceuticals) you will pay whatever price to have that product.

Barriers to Entry which allow for monopolies

A monopoly may continue to be the only producer in any industry if is able to stop other firms from entering the industry in some way

These ways of preventing entry to industry are known as barriers to entry, and they are divided into two categories. Economies of scale and barriers to entry.

Economies of scale

If a monopoly is large then they will experience economies of scale. These are advantages which allow them to lower their average cost as their size increases, due to specialization, labor division and bulk buying.

Any firm wishing to enter industry often must start up small and so will not have the economies of scale that are enjoyed by the monopolist. Even if the new firm were able to start on the same size as the monopolist, it would still not have expertise in the industry such as managerial economies, promotional economies and R&D.

Without economies of scale, a would-be entrant, knows that it would not be able to compete with the existing monopolist who would simply reduce the price to a level of normal profits, destroying demand for the competition. Since they will be making losses the lack of economies of scales prevents them from joining the market. 

Natural Monopoly

This is where due to the nature of the product the market can only hold one firm. Alternatively only one firm is allowed to exist by the government

Demand curve for monopolies

A Monopoly is the industry and therefore the monopolies demand curve is the industry demand curve and is downward sloping

Reasons for low price elasticity:

Ex. Microsoft fined for anti-competitive behavior. when it bundled other products with windows, destroying competition for their competitors.

Possibility of Abnormal Profit in A Monopoly

If a monopolist is able to make abnormal profit in the short run and has effective barriers to entry then other firms cannot enter the industry and compete away the profits that are being earned

Perfect Competition vs Monopolies

Advantages of Monopolies

Disadvantages of Monopolies

Unfair Profits of Monopolists

Monopolistic Competition

 Essentially a monopolistic competitive market is one with freedom of entry and exit, but firms can differentiate their products. Therefore, they have an inelastic demand curve and so they can set prices. 

Assumption of a Monopolistic Competition

Examples of Monopolistic Competition

Similarities to the other market Structures


Brand Loyalty is possible in Monopolistic Competition

Abnormal Profits and short run losses in Monopolistic Competition

Due to the lack of Barrier to Entry or Exit, abnormal profits are not possible in the long run because other firms can see that a firm is making abnormal profit and therefore other firms will enter the market and take away profits.

Short run losses are possible but like perfect competition long run losses are not possible

profit maximization point: MC = MR is the PROFIT MAXIMISATION POINT

Intersection point of AC and MC: Average Cost Intersects Marginal cost at its minimum


Can Monopolistically competitive firms have productive efficiency or Allocative efficiency?


Assumptions of an Oligopoly


Concentration Ratios


Types of Oligopolistic Industries

Firms have Interdependence, meaning that they all set the same price because if the priced too low they would lose revenue and if they priced to high they would lose demand.

Collusion in Oligopolies


Oligopolies and Price Issues


This is due to the collusion, firms collaborating means they can make abnormal profit and therefore they would want to keep prices stable to maintain profits.


Oligopoly acting as a Monopoly

The Kinked Demand Curve

One way to attempt to explain the situation in a non-collusive oligopoly is the kinked demand curve devised in the 1930s by an american economist called paul sweezy, the theory has be questioned on its accuracy but brings up interesting concerns



The kinked curve explains why there tends to be price rigidity.

  1. Firms are afraid to raise prices above current market price as other firms will not follow and so they lose sales and usually profit.

  2. Firms are afraid to lower prices below current market prices as other firms will follow, undercutting them and so creating a price war that will harm all firms involved

  3. The shape of the MR Curve means that if marginal costs were to rise then it is possible that MC would still equal to MR and so the firm bein profit maximisers would not change prices or outputs

Non Price Competition

As firms in oligopoly tend not to compete in terms of price the concept of non price competition becomes important.


Types of non price competition:

Advertising in an Oligopoly

Oligopoly is characterised by very large advertising and marketing spending as firms try to develop brand loyalty and make demand for their product less elastic.

Some may argue that this represents a misuse of scarce resources but it could be argued that the competition between the large companies results in greater choices for consumers



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