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MARKET MODELS - Coggle Diagram
MARKET MODELS
Pure/Perfect Competition:
-Number of firms: Very Large number of firms.
-Type of product: Standardized.
-Control over price: None.
-Conditions of entry: Very easy, no obstacles.
-Nonprice competition: None.
-Example: Agriculture.
Characteristics:
1) Very large numbers.
2) Standardized product/identical or homogenous product.
3) Price takers: Can not change the market price, can only adjust to it.
4) Free entry and exit, no obstacles.
Demand as seen by a purely competitive seller:
Each purely competitive firm offers only a fraction of total market supply, thus it must accept the price determined by the market.
Hence it is a price taker not a price maker.
Perfectly elastic demand:
The demand curve of a purely competitive firm is horizontal.
-Market demand graphs are downward sloping.
-An entire industry can change the price by producing more output, but an individual competitive firm can not do that.
-Price and average revenue are the same thing.
-Total revenue for each sales level is found by multiplying price by the corresponding quantity the firm can sell.
-Marginal revenue is the change in total revenue (or the extra revenue) that results from selling one more additional unit of output.
-Total revenue is zero when zero units are sold.
-In pure competition, marginal revenue and price are equal.
-TR is a straight line that slopes upward to the right.
-The only variable that the firm can control is its output.
-Purely competitive firm attempts to maximize its economic profit by adjusting its output.
2 methods to determine the level of output at which a competitive firm will realise maximum profit or minimum loss;
1) Compare total revenue and total cost.
2) Compare marginal revenue and marginal cost.
Where Total Revenue equals Total Cost but there is no economic profit: Break-even point (an output of which a firm makes a normal profit but not an economic profit.
-A firm should produce any output at which marginal revenue exceeds marginal cost because a firm will gain more revenue producing that unit then to add costs.
Initial stages of production, MR will usually but not always, exceed MC.
-At later stages, MC will exceed MR.
The firm will maximise profit or minimise loss in the short run by producing the quantity of output at which MR=MC (rule).
-Rule only applies if producing is preferable to shutting down.
-If MR does not equal or exceed AVC, the firm will shutdown rather than produce.
-The rule can be restated as P=MC in a purely competitive firm.
-Only under pure competition can we substitute P for MR.
-Profit maximising output, upto and including level of output of which marginal revenue is greater than marginal cost.
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Changes in supply:
-Changes in factors such as variable inputs or in technology will alter costs and shift the MC or short run supply curve.
-Wage increase will increase marginal cost and shift the supply curve. upward-decrease in supply.
-Technological progress which shift the supply curve downward-increase in supply.
-Market equilibrium price=Total quantity supplied of the product equals total quantity demanded.
Monopolistic Competition:
-Number of firms: Many.
-Type of product: Differentiated.
-Control over price: Some but within rather narrow limits.
-Conditions of entry: Relatively easy.
-Nonprice competition: Considerable emphasis on advertising, brand names, trademarks.
Example: Retail trade, dresses, shoes.
Characteristics:
1) Relatively large number of sellers.
2) Differentiated products.
3) Easy entry to and exit from the industry.
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2) Differentiated products.
-Product attributes.
-Service.
-Location.
-Brand names and packaging.
-Some control over price.
3) Easy entry to and exit from the industry.
Economies of scale are few and capital requirements are low.
Advertising:
The goal of product differentiation and advertising (so called nonprice competition) is to make price less of a factor in consumer purchases and to make product differences a greater factor.
A four-firm concentration ratio, expressed as a percentage, is the ratio of the output (sales) of the four largest firms in an industry relative to total industry sales.
Four-firm concentration ratio= Output of four largest firms/Total output in the industry
Four-firm concentration ratios are very low in purely competitive industries in which there are hundreds and thousands of firms, each with a tiny market share.
In contrast, four-firm ratios are high in oligopoly and pure monopoly.
Herfindahl Index:
Sum of the squared percentage market shares of all firms in the industry.
-Gives more weight to powerful larger firms than smaller firms.
-Purely competitive the index will approach zero because each firms market share is extremely small.
-Incase of single-firm industry, the index will be at its maximum indicating an industry with complete monopoly power.
The lower the Herfindahl index, the greater is the likelihood that the industry is monopolistically competitive rather than oligopolistic.
Monopolistic competitors demand is more elastic then the demand faced by a pure monopolist.
The price elasticity of demand faced by the monopolistically competitive firm depends on the number of rivals and the degree of product differentiation.
Monopolistically competitive firms maximize profit or minimize loss using exactly the same strategy as and monopolists.
MR=MC
PROFITS=Firms enter
LOSSES=Firms exit
P=MC=MINIMUM ATC
The equality of price and marginal costs yields allocative efficiency.
In monopolistic competition, neither productive nor allocative efficiency occurs in a long run equilibrium.
The gap between the minimum ATC output and the profit maximizing output identifies excess capacity.
Pure Monopoly:
-Number of firms: One
-Type of product: Unique, no close substitutes.
-Control over price: Considerable.
-Conditions of entry: Blocked.
-Nonprice competition: Mostly public relations advertising.
-Example: Local utilities.
Oligopoly:
-Number of firms: Few.
-Type of product: Standardized/differentiated.
-Control over price: Limited by mutual interdependance; Considerable with collusion.
-Conditions of entry: Significant obstacles.
-Nonprice competition: Typically a great deal, particularly with product differentiation.
Example: Steel, automobiles, farm implements, many household appliances.