Market Structures

Prof. Tarun Das,

IILM, New Delhi

Market Structures by Prof. Tarun Das 1

Contents of this presentation
1. Different Market Structures
2. Perfect competition
3. Monopoly and Monopolistic competition
4. Market Power and Lerner Index
5. Structure-conduct-performance (SCP)
approach

Market Structures by Prof. Tarun Das 2

 1.1 Different market
•
structures
A market is an arrangement through which
buyers and sellers exchange their goods and
services, anything of value.
• Market structure is a set of characteristics that
determine business environment under which
firms operate.
• Market structure is determined by:
a) Number of sellers and buyers,
b) Degree of product differentiation,
c) Procedures for entry and exit of firms,
d) Degree of contestability and rivalry of firms.

Market Structures by Prof. Tarun Das 3

 1.2 Different market
Markets
structures
Number of Number of
sellers buyers
Perfect Many Many
competition

Monopoly Mono (single) Poly (many)

Duopoly Duo (two) Poly (many)
Oligopoly Oligo (a few) Poly (many)
Monopolistic A few A few
competition

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 2.1 Perfect Competition-
Basic characteristics
• Many sellers and many buyers.
• Perfectly competitive firms are price-takers.
• They sell homogeneous/standardized product
• Perfect knowledge of buyers and sellers
about the market.
• No restrictions on entry and exit of firms
• Price is determined by free market forces of
supply and demand.
• Despite the term “competitive”, firms do not
contest others and donot act as rivals.
• Perfect competition is an utopia- real market
is neither perfect nor competitive.

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 2.2 Perfect Competition-
Equilibrium Conditions
1. Objective Function- Maximize Profits
Π = Total Revenue – Total Cost
= TR – TC= PQ – TC(Q)
2. First order condition,
d Π /dQ= 0 ⇒ P-MC=0 ⇒ P=AR=MR=MC
3.The second order and sufficient condition:
2nd derivative should be negative i.e.
d2 Π /dQ2 < 0, -d(MC)/dQ <0 implying
d(MC)/dQ >0, i.e. MC must be rising, MC>ATC
4. Break even point:P=MR=ATC= AVC+AFC
5. Shut down point: P=MR=AVC

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 2.3 Perfect Competition-
equilibrium
200

COST (Rupees) 150

100

50

11

13

15

17
1

9
OUTPUT (Q)

AVC ATC MC

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 2.4 Perfect Competition- assignment-1
1. A firm with AVC = 10 - 0.03Q + 0.00005Q² and
fixed cost Rs.600 operates in a perfectly
competitive market, and faces a market price of
Rs.10 per unit.
(a) Find out the profit-maximizing output and the
level of profit.
(b) At what market price, will the firm break
even? And At what market price, will it shut
down? What are levels of loss at these points?
Source: Ch-11, Q-11, p.465, Thomas and Morris.
Answer: pp.726-727, Thomas and Morris.

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2.5 Perfect Competition- assignment-
2
2. A firm with MC = 80 - 0.1Q + 0.0001Q² operates
in a perfectly competitive market, and faces a
market price of Rs.75 per unit.
(a) Find out the profit-maximizing output,
average cost and the level of profit.
(b) At what other level of output, does MC equal
market price? Is this output level optimal? If
not, why?
Source:Ch-11,Q-12, p.465, Thomas and Morris.
Answer: p.727, Thomas and Morris.

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 3.1 Monopoly and Monopolistic
Competition
1. Monopoly- Single Firm but many buyers.
Unlike in the perfect competition, price
is variable and is determined by the
monopolist. Entry is restricted.
Equilibrium condition MR = MC
2. Monopolistic Competition- existence of
large number of small firms supplying
differentiated products to many
consumers. Entry and exit of firms, as in
the case of perfect competition, is free-
only difference is the product
differentiation.
Equilibrium condition MR=MC for all

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 3.2 Monopoly and Monopolistic
Competition- Assignment
1. A Monopoly Firm faces the following demand
and average cost functions:
Q = 2600 – 100P + 0.2 Y –500 Pr
AVC = 20 – 0.07 Q + 0.0001Q²
Where Q=output, P=Price of the product,
Y=consumers income=Rs.20,000
Pr=Price of related good=Rs.2
AVC= Average variable cost.
(a) Derive MR and MC functions.
(b) Find out optimal level of production, price
and profits.
Source:Ch-12, Q-15 and Q-18,pp.512-513,
Thomas and Maurice. Answer: pp.729

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 4.1 Market power and Lerner Index
1. Market power is the ability of the price-
setting firm to raise their prices without
loosing their market share.
2. Lerner Index =(P-MC)/P = (P-MR)/P
= [P-P(1+1/Ep)]/P = 1- (1+1/Ep)/P
= -1/ Ep
3. Market power varies inversely with price
elasticity of demand, and equals zero
under perfect competition.

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 4.2 Determinants of Market power
1. Strong barriers to entry due to
government licensing, investment
and franchise policies.
2. Existence of very large firms with
economies of scale.
3. Input barriers
4. Loyalties to brand names/ trade
marks
5. Consumers lock-in due to large
switching cost caused by installation
and other costs.
6. Network externalities
Market Structures by Prof. Tarun Das 13
 5.1 Strategy-Conduct-Performance
(SCP) Analysis - Market strategy
of different markets
Market No. of Entry Product
Type firms
Perfect Very Free Standard-
competition large ized

Monopoly One BlockedDifferen-

tiated
Oligopoly Few Impeded Both

Monopolisti Many Easy Differen-

c Market Structures by Prof. Tarun Das tiated 14

competition
 5.2 Strategy-Conduct-Performance
(SCP) Analysis – Conduct
of different markets
Market Price Product R&D and
Type strategy strategy advertising

Perfect None Indepen None

competition dent

Monopoly Indepen Indepen Light

dent dent
Oligopoly Indepen Indepen Heavy
dent dent
Monopolisti Indepen Indepen
Market Structures by Prof. Tarun Das
Heavy 15
c dent dent
 5.3 Strategy-Conduct-Performance
(SCP) Analysis – Performance
of different markets
Market Profit Technical Progre-
Type efficiency ssiveness

Perfect Normal Good Good

competition

Monopoly Excessive Poor Poor

Oligopoly Excessive Poor Poor

Market Structures by Prof. Tarun Das 16
Monopolisti Fair Good Fair
 5.4 Strategy-Conduct-Performance
(SCP) Analysis – Performance
and Equilibrium Conditions
Market Equity and Equilibrium
Type employmen conditions
t
Perfect Good MC=MR=P=AR
competition

Monopoly Poor MC=MR=P(1-1/Ep)

Oligopoly Poor MC=MR for all

Monopolisti Fair MC=MR=P(1-1/Ep)
c Market Structures by Prof. Tarun Das 17
competition
 5.5 Critique of SCP Approach
1. The structure-conduct-performance (SCP) approach
argues that behavior and therefore the performance of
firms is determined by the industrial structure in which
firms operate. But, SCP approach has been criticized by
many economists:
(a) Complex Relations- The causality from structure to
conduct to performance is not uni-directional and is
much more complex.
(b) Contestable Markets- SCP emphasizes the role of price
setting for making profits. But Baumol argues that profits
actually depend on the degree of contestability i.e. the
ease with which the firms can enter and exit.

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 5.5 Critique of SCP Approach
© Chicago school (Milton Friedman)- There is no
significant degree of monopoly power. In the
long run, markets will bring competition in the
absence of government intervention.
(d) The Austrian school - Like Chicago school, it
criticizes government intervention as it leads
to non-optimal and inefficient allocation of
resources. But it concludes that monopoly
power is a reality and not a bad thing as it
encourages cost-effectiveness and innovations
and promotes growth. It says that SCP analysis
is too static.

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 5.6 Market Power and SCP
Approach- Assignments
1. What is meant by market power? What are the
factors influencing market power? Explain Lerner
Index to measure market power. What is the value of
Lerner Index for the perfectly competitive market?
2. Provide a structure-conduct-performance (SCP)
analysis, in a tabular form, for perfect competition,
monopoly, oligopoly and monopolistic competition.
What are the criticisms by Baumol, Chicago school
and Austrian school against the SCP analysis? Do you
agree with their views?
 

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 Thank you
Have a Good Day

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