Chapter- 10 (Microeconomics) FORMS OF MARKET

of 8 PARALLEL CLASSES

Chapter- 10 (Microeconomics)

FORMS OF MARKET

MARKET: -

Market refers to a whole region where buyers and sellers of a commodity are in contact with each other

to effect purchase and sale of the commodity.

Bases of Markets: - Economists have defined and classified markets on the following basis:

a) The number of buyers and sellers of the commodity.

b) The nature of the commodity produced by the seller.

c) Freedom in the movement of goods and factors of production.

d) Knowledge of the buyers and sellers regarding prices in the market.

Forms of Market

PERFECT COMPETITION/MARKET: -

Perfect competition refers to a market situation where there are very large number of buyers and sellers

dealing in a homogeneous product at a price fixed by the market. Example- in recently, perfect

competition has never existed. The closest example we may have for such kind of market can be market

for agricultural goods (like wheat and rice).

Features of Perfect Competition-

1. Very large number of Buyers and Sellers- There are very large number of buyers and sellers of

the commodity in the market. The number of sellers and buyers are so large that the share of each

seller is insignificant in the total supply and share of buyer is insignificant in total purchase. Under

such conditions, price of a commodity is determine by the market forces of demand & supply and

each buyer & seller has to accept the same price. As a result uniform price prevails in the market.


2. Homogeneous Product- The products offered for sale in the market are homogeneous, i.e., the

product is identical in all respects like size, shape, quality, colour etc. Since each firm produces

100% identical products, their products can be perfectly substituted for each other. No individual

firm is in the position to chare a higher price for its product.

3. Freedom of Entry and Exit- Every seller has the freedom to enter or exit the industry. This means

that any new firm is free to start production, and that any existing firm free to stop production and

leave the industry. It implies that all firms will earn only normal profit in the long run. A firm can

earn abnormal profits or losses in the short run.

4. Perfect knowledge among buyers and sellers- Both buyers and sellers are fully informed about

the market price. Its implication is that no firm is in position to charge a different price and no buyer

will pay a higher price. As a result a uniform price prevail in the market.

5. Perfect mobility of factors of production- Factors of production (land, labour, capital &

entrepreneur) can freely move from one place to the other as well as from one firm to other. The

factors are free to move to the industry in which they get the best price.

6. No selling (Advertisement) cost- As we know, firms are selling homogeneous products and they

are perfect substitutes, so advertisement cost is involved in perfect completion.

7. No transportation costs- In order to ensure uniform price in the market, it is assumed that

transportation costs are zero. A producer can sell his product at any place and a buyer can buy it

from the place he likes.

Pure Competition and Perfect Competition: - The competition is said to be ‘Pure Competition’

when the 3 fundamental conditions exist:

1. Very large number of Buyers and Sellers

2. Homogeneous Product

3. Freedom of Entry and Exit

‘Perfect Competition’ is a wider concept. For the market to be perfectly competitive , in addition to 3

fundamental conditions, 4 additional conditions must be satisfied:

1. Perfect knowledge among buyers and sellers

2. Perfect mobility of factors of production

3. No selling (Advertisement) cost

4. No transportation costs


AR (Demand Curve) and MR Curves of a firm under Perfect Competition: - In perfect

competition, a firm can sell any amount of output at a given market price. It means firm’s additional

revenue (MR) from the sale of the commodity will be just equal to the market price (i.e. AR). Hence,

average revenue and marginal revenue become equal (AR=MR) and constant in the situation.

Consequently, AR (or Demand Curve) and MR curve will be same and would be horizontal or

parallel to X-axis. This is shown the following figure.

A Firm under Perfect Competition is Price-Taker and not a Price-Maker: -

In a perfect competition market, the price of a commodity is determine by the demand and supply of

the whole industry. Here the group of firms collectively are known as industry. Under perfect

competition, an individual firm cannot influence the price on its own as its share in total market supply

is negligible. Price is determined at the point where market demand curve intersects market supply

curve. Therefore, the industry is called price maker. This is shown in the following figure.

Non-Competitive Markets: - Non-Competitive markets are those markets in which we do not find

pure and perfect competition. There are three main forms of such Markets; Monopoly; monopolistic

competition; and Oligopoly.


MONOPOLY: -

The word MONOPOLY is made of two words MONO+POLY. Here ‘Mono’ means one and ‘Poly’

means seller, thereby the literal meaning of the word monopoly is one seller or one producer.

Monopoly refers to a market situation where there is a single seller selling a product which has no

close substitute. For example Railway in India.

Features of Monopoly: -

1. Single Seller: - Under monopoly, there is single seller selling the product. As a result, the monopoly

firm and industry are one and the same thing and monopolist has full control over the supply and

price of the product.

2. No close substitute: - The product produced by a monopolist has no close substitute. So, the

monopoly firm has no fear of competition from new or existing products.

3. Restrictions on Entry and Exit: - There exists strong barriers to entry of new firms and exit of

existing firms. As a result, monopoly can earn abnormal profits and losses in long run. These barriers

may be due to legal restrictions like licencing or patent rights or due to restrictions created by firms

in the form of cartel.

4. Price Discrimination: - A monopolist can sell its product at different prices to different customers.

It is known as ‘Price Discrimination’.

5. Price maker: - In case of monopoly, firm and industry are one and the same thing. So, firm has

complete control over the industry output. As a result, monopolist is a price-maker and fixes its own

price. It can influence the market price by changing the supply of the product.

Reasons for Emergence of Monopoly: - The various reasons for emergence of monopoly are:

i. Government licencing – It means that before a firm can enter an industry it needs to take permission

from the government. By not granting licences to new firms, government aims to assure that only

one firm operates in the market.

ii. Patent Rights – When a firm or producer gets official recognition that no one else can produce the

product or technology developed or invented by this firm, it is patent rights. It is to promote and

recognise the research and development work by the firms and to cover their risk. The period for

which patent rights are granted is known as patent life. It may be for 15 to 20 years.

iii. Cartel – In order to earn the maximum profits, sometimes producers of a particular product, keeping

their individual identity, come together and make one organisation, which is termed as cartel. The


most famous example of cartel is ‘Organisation of Petroleum Exporting Countries (OPEC)’, which

led to virtual monopoly in the market for oil.

AR (Demand curve) and MR curves of a Monopoly firm: - Demand of the product is not in the

control of monopoly firm. In order to increase the output to be sold, monopolist will have to reduce the

price. Therefore, monopoly firm faces a downward sloping demand curve. As we know, in monopoly

market there is no close substitute for its product, The AR (or Demand Curve) is STEEPER.

MONOPOLISTIC COMPETITION: -

Monopolistic competition refers to the market situation in which there are large number of firms which

sell closely related but differentiated products. For example- market for products like soap, toothpaste,

A.C. etc.

Features of Monopolistic Competition: -

1. Many/large number of sellers: - There are large number of firms selling closely related, but in

some way differentiated products. Each firm acts independently and has a limited share of market.

So, an individual firm has limited control over the market price.

2. Product Differentiation: - Product differentiation refers to differentiating the product on the basis

of brand, size, colour, shape etc. This gives some monopoly power to an individual firm to influence

market price of its product.

3. Freedom of Entry and Exit- Every seller has the freedom to enter or exit the industry. This means

that any new firm is free to start production, and that any existing firm free to stop production and

leave the industry. It implies that all firms will earn only normal profit in the long run. A firm can

earn abnormal profits or losses in the short run.

4. Lack of Perfect knowledge: - Due to the availability of various differentiated products in the market

it is very difficult for the buyers to gain perfect knowledge about the market and this leads to

exploitation of buyers as well as the part of sellers.


5. Lack of perfect mobility of Factors: - Under monopolistic market factors of production cannot

move freely from one place to another since different prices prevail for the same factor of production.

6. Selling Costs: - Selling costs refer to the expenses incurred on marketing, sales promotion and

advertisement of the product. Such costs are incurred to persuade the buyers to buy a particular brand

of the product in preference to competitor’s brand.

7. Independent Price Policy: - A firm under monopolistic competition is neither a price-taker nor a

price-maker. However, by producing a unique product or establishing a particular reputation, each

firm has partial control over the price.

AR (or Demand Curve) and MR of a Monopolistic Competition: -

AR and MR curves facing a firm under monopolistic competition a downward sloping FLATTER

curve. Demand curve is negatively sloped as more quantity can be sold only at a lower price.

OLIGOPOLY: -

Oligopoly refers to a market situation in which there are a few firms selling homogeneous or

differentiated products. For example- Market for products like cold drink, automobiles, steel, cement

etc.

Features of Oligopoly: -

1. Few Firms: - There are few large firms. The Exact number of firms is not defined. Each firm

produces a significant portion of the total output. There exists severe competition among different

firms and each firm try to manipulate both prices and volume of production to outsmart each other.

2. Interdependence: - Interdependence means that action of one firm affect the actions of other firms.

A firm considers the action and reaction of the rival firms while determining its price and output

levels.


3. Indeterminate of Demand Curve: - In an oligopolistic market when a firm lowers down the price

to promote its sale, it affects other firms also. Hence, as a reaction, rival firms also start to reduce

their prices. The exact behaviour pattern of a producer cannot be determined with certainty. So,

demand curve faced by an oligopolist is indeterminate (uncertain) and therefore is Kinked shaped.

4. Group Behaviour: - Sometimes in an oligopolistic market, firms enter into a collusion and work as

a group. Through this arrangement firms try to maximise their profits. When they work

independently, there is price-war, they might agree on a price which may be profitable to all.

5. Non-price Competition: - The firms in oligopoly try to avoid price competition for the fear of price

war. They follow the policy of price rigidity. Price rigidity refers to a situation in which price tends

to stay fixed irrespective of changes in demand and supply conditions. Firms use other methods like

advertising, better services to customers, etc. to compete with each other.

6. Nature of the Product: - The firms under oligopoly may produce homogeneous or differentiated

(heterogeneous) product. If the firms produce a homogeneous product (like cement, LPG cylinders

etc.) the industry is called a Pure or Perfect oligopoly. If the firms produce a differentiated product

(like soft drinks, automobiles etc.) the industry is called Impure or Imperfect oligopoly.

7. Very Difficult Entry of New Firms: - In oligopoly it is very difficult to enter in the market because

of many reasons like high capital requirement, patent issue etc.

Types of Oligopoly: -

1. Collusive Oligopoly: - When the firms enter into agreements regarding a uniform price output policy

to be persuade by them, it is called collusive oligopoly. Collusions are of two types-

i) Cartels ii) Price-leadership

2. Non-collusive Oligopoly: - When firms in an oligopoly market freely compete with each other and

do not enter in agreement regarding price and output, it is termed as non-collusive oligopoly.

Chapter- 10 (Microeconomics) FORMS OF MARKET

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