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Competitive
and
concentrated
markets

Market Structures
Market structures are the characteristics of a market which determine firms’ behaviour
Market structures range from being v
...
of firms in a market and their relative size
No
...
of firms in an industry:

- May vary from 1 to many (e
...
UK market for letter deliveries to households has Post Office as essentially
sole supplier whereas agriculture there are thousands of suppliers to this market)

- Monopoly: when only one supplier in market

- If market is dominated by a few large producers market structure is oligopolistic = may be large

-

no
...
of large firms produce most of the
output of the industry
Perfect competition: large no
...
of barriers to entry which prevent potential competitors from entering an industry:
Capital Costs:
• Sometimes v
...
g
...
important entry
barrier
Sunk costs:
• Costs which aren’t recoverable e
...
if business fails can;’t get money back you spent on advertising
• Costs you cant get back + difference between purchase price of capital and resale price = sunk costs
• Act as barrier because cost of failure for firms entering industry is high (however low sunk costs could
encourage firms to enter as have little to lose)
Scale economies:
• A new firm is likely to produce less, thus having much higher Acs than large firms experiencing economies
of scale = large firms able to undercut others due to being able to sell at low prices
Natural cost advantages:
• Some producers own factors superior to others and are unique (have no close substitutes)
• E
...
petrol station may have superior location of a busy road instead of a quiet village or may be a better oil
supply somewhere compared to somewhere else
= able to generate higher revenues than potential competitors
Legal barriers:
• Law may give some firms privileges e
...
Patent laws can prevent competitor firms from making a product
for a given no
...
g
...
g
...
g
...
Innocent entry barriers
2
...
g
...
large penalty + firm may have leased premises and individual owner has to keep paying else
even if business is closed down
= firm may make smaller loss staying in industry than closing down

Product homogeneity + Branding

- Some industries products are essentially identical e
...
Coal, steel, potatoes = no producer has a monopoly
on the production of any such grade/type = homogenous goods (found in perfect competition)

- Easier for firms to control their markets if can produce non-homogenous goods
= differentiating they product from competitors + creating brands to build them up = can build up brand
loyalty
- Leads to reduction in elasticity of demand for their product… good may be only slightly different, but
branding leads to consumers thinking product is v
...
g
...
g
...
g
...
g
...
g
...


1
...
Maximise Revenue instead of profits
- Make sure get sales then can get cut costs later
- More simple + easy to monitor objective

- Revenue maximising condition: MR = 0

3
...
Increasing Sales rather than Profit
- Increasing no
...
A firm’s objective could simply be to survive in the short run
- Then when it’s established in a market it can try to maximise profits
- This may be the objective of a firm operating in a highly competitive market as to keep
operating may need to focus on keeping up with competition+ maintaining the customers that
they have
6
...
g
...
g
...
Try to protect the environment by using sustainable resources

...
May choose to pay its workers above standard market rate

1
...

3
...

5
...


Survival
Increasing market share
Maximising Revenue
Maximising Sales
Benefit to society
Corporate Social Responsibility Policy

Principle/Agent Problem / Divorce of ownership from control
Satisfice: Concept introduced by economist Herbert Simon, he believed economic agents didn't
always optimise: Why is this?
- Often settle for satisfactory outcomes instead… perhaps because of too much effort/ do not
know what the optimal level of output is to maximise

- Principle Agent Problem: Separation from ownership and control

• Happens because the owners/shareholders of large businesses are different from the managers
who actually control the business
• Principles (shareholders) and the agents (managers) are self-interested
• Managers may just do enough to satisfy the owners (enough profit to avoid criticism)… once they
have achieved that they may try to pursue their own objectives (e
...
their own salary/reputation,
interests of the management)
= making enough profit but not maximising it is profit satisficing
Examples:

...
Larger firm = more prestige for management so might put focus on expanding the firm rather than
its profit
= Divorce of ownership from control results in:

Misaligned incentives and Asymmetric Information
Asymmetric info:

...
Exopenses scandals where they are misusing taxpayers money (Sir Peter Viggers claimed £1645
for a floating duck house in his back garden)

...
g
...
g:
Principle:
Agent:
Government/Taxpayers
Principle wants to:
- Reduce costs + Improve performance

The organisation’s management
Agent wants to:
- Retain staff + Management salaries

= conflicting objectives due to divorce of ownership and control

Stakeholders: All relevant parties who have an interest in the operation + results of the business
• Shareholders- own business
• Management - run business
- ability to take industrial action if not being given right wages/opportunities (trade unions)
• Staff
• Government - regulatory decisions, legislations ultimately restrict how businesses can operate
• Local Community - collective action/complaining
- if demand changes firm will have to respond to this = consumer sovereignty
• Customers
= all could have some power over running got business

= ultimate explanation of divorce of ownership and control as control is dissipated
amongst all of the stake holders of the business … no one stakeholder can run
business entirely themselves

To maximise profits:
MC = MR … do not change output
MC>MR … decrease output
MR>MC … increase output

To maximise revenue: MR = 0
MR>0 … decrease output
MR < 0 … increase output

Perfectly Competitive Markets

•

Perfectly competitive markets are only theoretical as there are no real
markets that work like this
...
of suppliers + consumers

- Each of the suppliers is small enough so no single firm/consumer has any ‘market power’ (can’t affect
the market on their own e
...
even if they double their supply v
...
easily, existing firms can leave equally easily

• Firms are profit maximisers

- All decisions firms make are geared towards maximising profit
- Sell at the market price

•

The price in perfectly competitive markets is determined by forces of supply and
demand i
...
In particular:

- All firms are price takers = the market sets the price according to consumers’ preferences,
rationing resources and signalling priorities

- Consumers + producers have perfect knowledge = no barriers to entry/exit = firms can
recognise and act on incentives to change their output level or enter/leave a market

Competitive markets are Open to New Competitors so Profits tend to be Low:
• Barriers are low = if high profits are being made by existing firms new firms will enter market
• If new firms enter this will shift the supply curve outwards = Price will fall which means firms
will make less of a profit as selling at a lower price
• Means whilst firms keep entering market they will only make normal profit in long-run
• If they make economic loss in short run could lead to other firms being discouraged and leaving
market = will have normal profit again
S1

Price

S2
P1
P2
D

Quantity
• Whereas in less competitive marks there are high barriers to entry = profit and prices will stay
high as new firms cant enter market and bring them down… Markets like this tend to be
dominated by a few large firms

Perfect Competition Diagrams:
Price
Price

S

MC curve
AC curve

P*
MR = AR = D

P*

AVC
curve

D

Q*

Output

Market
Output

Individual Firm (Price
Taker

The
Market as
a whole

Firms will profit maximise =
will produce where MR intersects MC
… this is at P* and Q*
= long run situation for perfect competition = normal profit
• If market experiences sudden positive demand shock:

- In market diagram demand will shift outwards so will supply = higher market price
- Market price goes up in firm diagram = higher demand curve
- Will still produce where MC now intersects MR = new quantity produced = supernormal profit =
causes new entrants = increase in supply, price falls = back to normal profit
Vice versa if sudden negative demand shock in market
= always in long run make normal profit

Assessing Perfect Competition:

- Encourages firms to be productively efficient + improve quality of products as competing with
each other

- Only theoretical
- Doesn’t encourage development/economic growth in long run because firms only make normal
profit = little money to do this

Monopolies

•

Pure monopoly=market with single supplier

•
•
•

A single firm has 100% market share
Essentially non-competitive
Markets with more than one supplier can also be referred to as monopolies if one
supplier dominates the market
High barriers to entry

•

• V
...
g
...
The higher the product differentiation (lack of substitutes) the stronger the monopoly power and
vice versa
However
...
of firms these are likely to have
some price making power + will find it easier to differentiate their products

• High Barriers to entry: as mentioned earlier including economies of scale/high start-up
costs/patents + copyrights/brand loyalty/legislation from government (Network Rail put in charge
of operating train tracks in UK) etc…
= monopolists can then control the market… the higher the barriers the stronger the power of the
monopolist over its market
E
...
in the UK legal barriers prevent firms from setting up new pharmacies in local areas +
planning permission regulations give large supermarket chains monopoly power in some local
areas in UK
• mpete
Some industries lead to a natural monopoly:
- Industries where there are high fixed costs or large economies of scale = only room for one
firm to be size required to be minimum efficient scale

- If there was more than one firm in the industry they they would all have high fixed costs so
would lead to higher costs per customer than could be obtained by a single firm = in this case
monopoly might be more efficient than having lots of firms competing
E
...
supply of water is a natural monopoly as it makes no sense for competing firms to all lay
separate pipes
Even though firms with monopoly power are price makers… consumers can still CHOOSE
whether or not to buy products = demand will still depend on price

Concentration Ratios show how DOMINANT the big firms in a market are:
- Some industries are dominated by just a few companies even though there may be many firms
in that industry overall… These are called concentrated markets

- Level of domination is measured by a concentration ratio:

• Example: three firms control 90% of the market while another 40 firms control the other 10%
• The 3-firm concentration ratio would be 90%
• Easy to calculate the n-firm concentration ratio of a market…
If market is worth 45 million and you wanted to find the 3-firm concentration ratio… if the biggest
three firms have revenues of £15m, £9m and £7m you add these together, divide by the worth of
the market (45m) and x by 100

Assessing Monopolies:

Potential Benefits of monopolies:
• A monopolist’s large size allows it to gain advantage from economies of scale… if
diseconomies of sale are avoided it means can keep average costs, and perhaps prices, low = a
monopolist will produce more than any individual producer in a perfectly competitive market
would
• Competition leads to firms competing on quality of products = beneficial for consumers
• Security a monopolist has in the market + profit it makes = can take a long-term view and
invest in innovation/invention = may be more dynamically efficient (making the best
possible improvement to productive efficiency over time) due to investment in research +
development due to security and profits (however may not invest profits into innovation/
development as they don’t have fear of competition)
• When market is dominated by few firms they might still compete = might still compete on price,
reducing costs + improving quality of products
• Intellectual Property Rights (IPRs) allow a form of legal limited monopoly that can actually
be in consumer’s interests because they’ll benefit from better quality, innovative products

- Various types or IPRs such as copyrights + patents = allow a firm exclusive use of their innovative ideas
for limited time

- Without protection of IPRs firms would have little incentive to risk their resources investing in innovative
products/processes as other firms would immediately be able to copy those ideas = would compete away
profits

- Natural monopolies = Avoids unnecessary duplication(e
...
railroads)

Several Disadvantages to monopolies:
• Monopolies restrict consumer choices as fewer products to choose from
• Monopolies may have fewer incentives to innovate bc don't have to improve products to make
them better than their competitor’s products
• May have no incentive to cut costs as they're price makers due to lack of competition in
market = can exploit consumers by charging high prices + may be inefficient leading to a
misallocation of resources
• Monopoly may use its powers to exploit its suppliers… E
...
monopoly could demand low price
from suppliers which they might agree to if monopoly threatens to use another supplier

• Productively inefficient = doesn’t produce with minimum average cost
• Consumer surplus decreases and producer surplus increases compared to perfectly
competitive… loss of consumer surplus is far greater than gain in producer surplus = deadweight to society = loss of welfare
• Allocatively inefficient as Price does not equal marginal cost
= Very inefficient as productively + electively efficient
HOWEVER these are only static inefficiencies… in industries where innovation is important, the
potential for dynamic efficiency could outweigh the static inefficiencies
Also sometimes natural monopolies are actually necessary

Monopolistic Competition Diagrams:
• Brand loyalty = firms charge prices above market price without losing all customers
• Downward sloping demand curve

Price

D (= AR)
Output/Quantity

Examples of industries which possess most of these characteristics in the UK:
- Gas, electricity, telecommunications, rail transport and water supply industries

Monopolistic Competition:
- Large no

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