Market structure refers to those characteristics of a market that influence the behaviour of buyers and sellers and the outcome they achieve in terms of product, quality and price. These characteristics include:
- number and size of firms in the market
- the degree and intensity of price and non price competition
- the nature of barriers to entry
Firms can compete with each other in the following ways:
- Price competition which involves offering lower prices for rival products. cutting prices below that of rival products in other to boost sales and market shares at the expense of the competing firms. f demand is price inelastic, cutting price may not boost sales and it will reduce the profit margin between price and average cost.
- Non-price competition: This involves competing on all other products features other than price. it can involve new product development, product placements in trade fairs, promotional campaigns, after sales care etc. Non-price competition is important because consumers do not just compare product prices, they are also out for the best value for money.
Market structures are further divided into four systems which are:
1] Perfect Competition
A perfect competition market structure is characterized by large number of buyers and sellers. All the sellers in this market are small sellers in competition with each other. There is no big seller with any significant influence on the market. So all the firms in such a market are price takers.
There are certain assumptions when analyzing the perfect competition. This is the reason a perfect competition market is pretty much a theoretical concept. These assumptions are as follows,
- Homogeneous products, i.e. they are completely identical
- All firms maximize profits
- There is free entry and exit from the market, i.e. there are no barriers to the market
- No consumer preference
A second look at this market would show that it is unattainable in the real sense of business, the only market that is likely to have such trait is the stock market.
2] Monopolistic Competition
In monopolistic competition, there are still large number of buyers as well as sellers, but they all do not sell homogeneous products. The products are similar but all sellers sell slightly differentiated products.
Now the consumers have the preference of choosing one product over another. The sellers are motivated to charge a higher price within certain range so that they may enjoy some market power which makes them price makers.
For example, the market for shoes is a monopolistic competition. The products are all similar but slightly differentiated in terms of style and design.
In an oligopoly, there are only a few firms in the market which can either compete against each other or collaborate to sell which them upper power to drive up prices and earn more profit.
The market structure builds on the following assumption:
- All firms maximise profits
- Oligopolies are price makers
- There is barrier to entry and exit in the market
- Products may be homogenous or differentiated
- Few firms dominate the market
The consumers become the price takers. In an oligopoly, there are various barriers to entry in the market, and new firms find it difficult to establish themselves.
4] Pure Monopoly
In a pure monopoly type of market structure, there is only one seller, so a single firm will control the entire market. It can set any price it wishes since it has all the market power. Consumers do not have any alternative and must pay the price set by the seller.
Monopolies are extremely undesirable. Here the consumer loose all their power and market forces become irrelevant. However, a pure monopoly is very rare in reality.
Features of pure monopoly
- Only one firm supplies the market
- The firm is a price maker
- New firms will be prevented from entering the market
- The firms will make abnormal profits
Advantages of Monopoly
1. Monopoly avoids duplication and hence avoids wastage of resources. (We have to understand that duplicate and fake products are a real problem in many countries).
2. A monopoly enjoys economies of scale as it is the only supplier of product or service in the market. The benefits can be passed on to the consumers.
3. Due to the fact that monopolies make lots of profits, it can be used for research and development and to maintain their status as a monopoly.
4. Monopolies may use price discrimination which benefits the economically weaker sections of the society.
5. Monopolies can afford to invest in latest technology and machinery in order to be efficient and to avoid competition.
6. Source of revenue for the government- the government gets revenue in form of taxation from monopoly firms.
Disadvantages of monopoly
- Less incentive to innovate than firms in competitive firms. The lack of competition means that monopolist become complacent rather than focusing on newer innovations for their survival.
- Imperfect knowledge in a monopolist market would not allow consumer make rational choices as there are limited information about the product that is to be sold. This gives an unfair power to the monopolist to maintain market power.
- Barriers to entry ensures that monopolist continue to charge high prices at the detriment of the consumer who has little or no option to choose from.
- In a monopolist market, there are little or no substitute which makes demand for the product price inelastic. As a price maker, they can charge higher prices to maximize profit.