AS Economics and BusinessDifferent market structures

Unit 2B

By Mrs Hilton for revisionstation

Lesson Objectives

• To be able to distinguish a monopoly from an oligopoly from a duopoly

• To be able to discuss barriers to entry• To be able to distinguish between

imperfect and perfect competition

• To be able to answer a past paper question on the topic area

Starter

• If I say monopoly what do you think of?

• Drugs, oil, gold, board game, Royal Mail, Coal, steel or credit cards?

Monopoly

• Monopoly exists when there is only supplier in an industry. Royal mail Transco monopoly on gas lines Microsoft 90% of world’s pc operating software market

Firms gain monopoly in the long run because of barriers to entry1. Legal – UK only pharmacies can sell prescription

drugs by law2. Resources – monopolist may be able to buy up all

the resources, such as an airline buying a route, or a supermarket chain buying the only plot of land in a town where a supermarket could be built

3. Unfair competition – a monopolist may want to defend its position and may slash prices to deter competition

4. Economies of scale – average costs fall as the monopolist grows larger

EOSpurchasing, managerial, technical, marketing

and financial

Barriers to entry

• Patent – blueprints and permissions only one to produce their products

• Predatory pricing – very low pricing to kill off any small firms

• Invisibilities – certain goods need certain size of plant to produce e.g. Smelting

• Saturation advertising – retailers will only stock products that are heavily advertised so consumers will buy them

• Switching costs – costs associated in moving to a different supplier or rival operator

• First mover advantage (Microsoft advantage gained over 20 years ago now every one is using it)

Government possible responses to monopoly

• Taxes – monopolies earn abnormal profits and govt can take these away in tax (more equity in the economy)

• Subsidies – govt encourage monopoly to cut prices and produce more (improve allocative efficiency)

• Price controls – limiting prices that can be set e.g. Phones and railways (maximise efficiency)

• Nationalisation – govt can turn it into a state owned company (unlikely and not popular after 80s) but no incentive to drive prices down and be productively efficient

• Privatisation – nationalised industries sold to the private sector to increase efficiency

• Deregulation – allow competitors to set up in an industry previously had legal barriers to entry, competition would drive prices down and reach allocative efficiency

• Breaking up the monopolist- govt could order the break up of a monopoly

• Reducing entry barriers – remove legal barriers to entry – for example the post office- open it up to competition

Competition and markets authority (CMA) previously called the monopolies and merger commission and then the competition

commission combined with the office of fair trading

• They work to promote competition for the benefit of consumers, both within and outside the UK. Their aim is to make markets work well for consumers, businesses and the economy. Non ministerial – 500 members of staff based in London delivering effective enforcement – to deter wrongdoing, protect

consumers and educate businesses extending competition frontiers – by using the markets regime

to improve the way competition works, in particular within the regulated sectors

refocusing consumer protection – working with its partners to promote compliance and understanding of the law, and empowering consumers to make informed choices

• https://www.gov.uk/government/organisations/competition-and-markets-authority/about

Oligopoly

• Oligopoly is a market structure where there are on a few competitors (imperfect competition amongst the few)

• An oligopolistic firm affects its rivals through its price and production decisions

• Perfect oligopoly is where the oligopolistic firm produces a homogeneous product e.g. Petrol (does not matter which brand all basic products are the same)

• Imperfect oligopoly is where products are differentiated e.g. Cars

• Barriers to entry and may be collusion

Homogeneous products (of the

same kind or alike)

Oligopoly: few businesses

dominating the market such as supermarkets

Products will be heavily branded which is a barrier to entry

Collusion

• Collusion occurs when a small number of sellers in a market co-operate with one another

• This is a reaction to uncertainty and is at the expense of the consumer

• Some forms of collusion such as joint product development are in the interests of the consumer

• Some may enter into a cartel agreement to keep prices high to ensure all suppliers in the industry stay in business

Duopoly

• Special type of oligopoly where there are only 2 firms

• Not pure monopolies but have monopoly power

• Barriers to entry

Imperfectly competitive market(monopolistic)

• Not full competition in the market• Large numbers of small firms• Some larger firms dominate industry (e.g.

Supermarkets and washing powder)• Product differentiation often occurs in

imperfectly competitive markets through branding in order to add value and gain consumer loyalty

• Imperfect markets such as hairdressing have low barriers to entry and exit

Perfectly competitive market

• Many competitors / sellers• Identical prices• Homogenous products • market structure where there are many buyers and

sellers• Perfect competition has freedom of entry and exit with

low barriers to entry• Consumers have perfect knowledge about prices and

products from competing suppliers• Customers have a wide choice of sellers all selling the

same product• Examples:

Steel Oil Chemicals Copper Farmed goods

• Goods sold by ALL suppliers must be the same e.g. Wheat from 5 different farms

Sample question 1

• Which of the following is least likely to occur in an oligopolistic market such as petrol?

• A Several large firms dominating the market

• B Extensive branding• C Barriers to entry• D Price competition

Answer question 1

• Answer D price competition• The key defining characteristic of an oligopoly is

that several large firms e.g. Shell, Esso, BP dominate the market (1 market) Products will usually be heavily branded (1 mark)

• Branded products provides one of many barriers to entry that deter prospective rivals (1 mark)

• Whilst there are price wars occasionally in oligopolies, the large firms tend to avoid damaging price competition and will rely on non-price methods of competition (1 mark) There may be collusion (1 mark)

Sample question 2

• In an imperfectly competitive market such as hairdressing, which one of the following is most likely to occur?

• A Product differentiation • B Few suppliers • C High barriers to entry • D Identical prices

Answer question 2• Answer A product differentiation

• Definition of imperfectly competitive market (1 mark) • Product differentiation often occurs in monopolistic/imperfectly competitive markets through branding (1 mark) in order to add value and gain consumer loyalty (1 mark) • Monopolistic/Imperfect markets such as hairdressing have low barriers to entry and exit (1 mark) • It is relatively easy for businesses to set up as a hairdresser and these are usually small scale (1 mark) • Perfect competition has identical prices, homogeneous products and many sellers (1 mark) • Hairdressers will compete on price (1 mark) as there are plenty of alternative suppliers in a monopolistic/imperfectly competitive market (1 mark) • Hairdressers will often advertise their services in order to raise awareness and gain customers (1 mark)

Sample question 3

• If there are high barriers to entry in an industry such as banking it is likely that there will be

• A low prices. • B low costs. • C low profitability. • D low competition.

Answer question 3

• Need June 2009

Sample question 4

Answer question 4

• Perfect competition describes a market structure where there are many buyers and sellers. (1 mark)• Perfect competition has homogenous products Examples include foreign exchange (1 mark)• Perfect competition has freedom of entry and exit with low barriers to entry (1 mark)• Consumers have perfect knowledge about prices and products from competing suppliers (1 mark)Up to two of the marks above can be achieved alternatively by explaining distracters, e.g.• A is wrong because an oligopoly market is one which has a few businesses dominating the market such as supermarkets. (1 mark)• C is wrong because non-price competition such as advertising is a feature of imperfect competition. (1 mark)• D is wrong because high barriers to entry are a feature of monopoly or an oligopoly market. (1 mark)