Chapter 7
Market Structures
7-1
Competition and Market Structure
“Market Structure”
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Nature and degree of competition
between businesses
Four market structures:
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Perfect competition
Monopolistic competition
Oligopoly
Monopoly
Perfect Competition
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Theoretical ideal
Five necessary conditions
1) Large number of buyers and sellers
– None is large or powerful enough to affect price
– Identical products are sold
– No brand names, no advertising
2) Buyers and sellers act independently
– No collusion or peer pressure
3) Buyers and sellers are well-informed
– Buyers shop at stores with the lowest prices
– Sellers match the prices of their competitors
4) Sellers are free to enter or leave the industry
– Firms will enter until profits disappear
– Firms exit if they are losing money
Monopolistic Competition
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Has all of the “five conditions” except “identical
products”
Prevalent today
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Product differentiation – producer makes
product a little different to try to monopolize a
small part of the market
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Nonprice competition – advertising &
promotions take the place of price competition
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Monopolistic aspect: sellers try to differentiate
their product so they can charge more
Competitive aspect: if prices are raised or
lowered enough, consumers will overlook
differences and change brands
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Oligopoly
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Very few large sellers dominate the industry
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In the US, many markets are oligopolistic, and many
more are becoming so (fast food, soft drinks,
airlines, etc.)
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Each firm is large and powerful, so what one firm
does (price wise), the others have to match.
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This may lead to collusion or price-fixing, which are
illegal.
Large firms compete through product differentiation
and advertising.
Prices will be higher than monopolistic competition,
and much higher than perfect competition.
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Monopoly
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One seller of a product.
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U.S. has few if any monopolies, because they
have been outlawed.
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Sometimes society is best served by a “natural
monopoly,” because duplication of equipment
would make the service more costly (i.e.
utilities), and there are “economies of scale” as
the company gets larger.
Natural Monopolies
A natural monopoly is a
market that runs most
efficiently when one large
firm provides all of the
output.
Government Monopolies
A government monopoly is a
monopoly created by the
government. These take
several forms:
• Technological
Monopolies
–The government grants
patents, licenses that
give the inventor of a
new product the
exclusive right to sell it
for a certain period of
time.
Economics Chapter 7:
Market Structures
• Geographic Monopoly occurs when
the location cannot support two or
more such businesses (small town
drug store).
7-2
Market Failures
Economics Chapter 7:
Market Structures
5 Reason Markets Fail
1. Inadequate Competition
• Inefficient resource allocation – because no
competition
• Higher prices and reduced output
• Economic and political power → ask for tax
break and threaten to move if don’t get it.
• Not enough demand to have competition
Economics Chapter 7:
Market Structures
2. Inadequate Information
3. Resource Immobility – this means that
land, capital, labor, and entrepreneurs do
not move to markets where returns are
the highest. Instead they tend to stay put
and sometimes remain unemployed.
Economics Chapter 7:
Market Structures
4. Externalities – or unintended side effect that
either benefits or harms a 3rd party not involved
in the activity that caused it. (positive and
negative externalities).
• Externalities are regarded as market failures
because they are not reflected in the market
prices of the activities that caused the side
effects.
Economics Chapter 7:
Market Structures
5. Public Goods – are products that are
collectively consumed by everyone and whose
use by one individual does not diminish the
satisfaction or value available to others.
• (ex) national defense and public education. A
market fails because it cannot withhold supply
from those who refuse to pay.
7-3
The Role of Government
Economics Chapter 7:
Market Structures
Role of The Government
• Anti-trust laws prevent or break up
monopolies, preventing market failures
due to inadequate competition.
Economics Chapter 7:
Market Structures
• The Sherman Anti-Trust Act of 1890 was
enacted to prohibit trusts, monopolies, and other
arrangements that restrain competition.
• The Clayton Anti-Trust Act was passed in 1914
to outlaw price discrimination (the practice of
charging customers different prices for the same
product).
Economics Chapter 7:
Market Structures
• The Federal Trade Commission (1914) was
empowered to issue cease and desist orders,
requiring companies to stop unfair business
practices.
• The Robinson-Patman Act of 1936 was passed
to strengthen the price discrimination provisions
of the Clayton Anti-Trust Act.
Economics Chapter 7:
Market Structures
• Public Disclosure is used as a tool to
promote competition. Any corporation that
sells its stocks publicly is required to
supply financial reports to both its
investors and to the SEC (Securities
Exchange Commission).
Economics Chapter 7:
Market Structures
• Corporations, banks, and other
lending institutions must disclose
certain information. There are also
“truth-in-advertising” laws that prevent
sellers from making false claims
about their products.
Maintain Competition
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Sherman Antitrust Act – 1890
Clayton Antitrust Act – 1914
Federal Trade Commission – 1914
Regulation
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Regulate “natural monopolies”
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State and local governments regulate many
monopolies such as cable TV, phone, electric
and water utilities.
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Companies must get approval for raising
prices.
Also many federal regulatory agencies
“Internalize externalities” – tax companies that
are causing problems in order to mitigate
problems, i.e. pollution
Public Disclosure
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Prevent market failure due to inadequate
information
Food labeling
Financial information on publicly traded companies
Loan and credit card payment accounting methods
Support for internet and its information capabilities
Government information available on internet
Provide Public Goods
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Military
Roads, airports, canals
Schools, universities, research
Hospitals, subsidized health care
Water aqueducts, dams
Old age assistance
Parks, pools, museums
Police, courts, prisons
Trash collection, landfills
Modified Free Enterprise
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Encourage competition
Regulate natural monopolies
Require public disclosure
Provide public goods