PERFECT COMPETITION VS MONOPOLY— DIFFERENCES AND SIMILARITIES

Perfect competition and monopoly are two polar cases of the market structure spectrum. These two market structures are marked by many differences and similarities alike. 

Differences Between Perfect Competition And Monopoly

1. The price charged by a perfect competitor is always equal to its marginal revenue while a monopolist's price does not equal marginal revenue.

2. While Perfectly competitive firms are allocatively efficient, monopolies are not.

3. Perfectly competitive firms are productively efficient as opposed to productively inefficient monopolies.

4. Abnormal profit is a feature of monopoly in the long run whereas abnormal profit is not a long-run feature of perfect competition

5. While Monopolists are price makers, perfect competitors are price takers.

6. Barriers to entry are present in monopoly whereas barriers to entry are absent in perfect competition.

7. The demand curve faced by a monopoly firm is downward-sloping whereas the demand curve perfect competitor is a horizontal straight line, inducing perfectly elastic demand.

Now, let's take a closer look at each difference:

Perfect competitor price equals marginal revenue while monopoly price does not equal marginal revenue.

This is one of the obvious differences between perfect competition and monopoly. 

The price received by perfectly competitive firms is set primarily by the interplay of market demand and supply as he is a price taker. 

Perfectly competitor would not reduce his price to sell an additional unit of goods.

This means he receives the same price when selling any units of his goods.

Therefore, the price he will be received will equal marginal revenue at all output.

A monopoly, on the other hand, is a price maker hence he can charge whatever price he wants (albeit limited by his demand curve). 

However, he would have to lower the price to sell an additional unit of his good(law of demand).

Hence, its marginal revenue will be greater than the price at all output greater than one.

In short, P>MR for monopoly and P=MR for a perfect competitor.

Abnormal profit, unlike monopoly, is not a feature of perfect competition in the long run.

Abnormal profit is not a feature of perfect competition in the long run. 

If a perfectly competitive firm is earning an abnormal profit in the short run.

It will serve as an incentive for more firms to enter the market. New entry means economic profit will diminish until it becomes zero. 

For a monopoly, however, abnormal profit is possible in the short-run and long-run.

If a monopoly is earning economic profit in the short run, it will continue to earn income in the long run as there is a barrier to entry. 

For this reason, there is no clear distinction between short-run and long-run in a monopoly

Allocative efficiency 

Allocative efficiency means producing the goods most preferred by the consumer i.e where Price equals marginal cost. 

Given that profit-maximizing, a perfectly competitive firm will produce at the point where marginal revenue equals marginal cost.

And given also that price of a perfect competitor is always equal to marginal revenue. Thus, perfectly competitive firms are allocative efficient.

Monopoly, as said earlier, will always produce where the price is greater than marginal revenue. 

And because a monopolist will produce where marginal revenue is equal to marginal cost, he will, therefore, be producing where the price is greater than marginal cost which is allocative inefficiency.

Demand curves

The demand faced by a perfectly competitive firm is downward-sloping

The demand faced by a perfectly competitive firm is perfectly elastic, hence, a horizontal demand curve

The reason for a perfectly elastic demand is that consumers are only prepared to buy the goods at only the prevailing market price.

If the perfectly competitive firm decides to raise the price above the market equilibrium, then it would lose its sales to competitors.

On the other side of the spectrum is a monopoly.

Monopoly, in theory, is made up of only one firm. In effect, the firm's demand curve will be the market's demand curve.

Since the market's demand curves are downward-sloping, the monopolist demand curve will be downward sloping

Barriers to entry

Another way monopolists differ from perfect competitors is the existence of barriers to entry.

Barriers to entry are legal and technological restrictions that may prevent firms from entering a market. You will get to know about barriers to entry here

These barriers to entry are vastly present in monopoly. In the case of perfect competition, however, these barriers to entry are absent.

This perhaps explains why monopolies earn abnormal profit in the long run while their perfectly competitive counterpart doesn't

Productively efficient.

Productive efficiency means producing at the lowest possible per-unit cost so that the choice is on the production possibility curve

In the long-run, perfectly competitive firms will be producing at the point where the price is equal to the lowest average total cost, hence they will be productively efficient.

Monopoly, are, however, less productive and efficient. This is because they will be producing less than optimum output in the hunt for a higher profit. 

Another reason why monopolists are less efficient than perfectly competitive firms is that they can survive even if they produce above the lowest point on the average total cost.

Remember that monopolies earn abnormal in the long-run while perfect competitors do not.

Hence, a monopolist is not incentivized towards producing at the lowest per-unit cost as his perfectly competitive counterpart.

Similarities between monopoly and perfect competition

1. Both maximize profit

2. Both have the same average cost and marginal cost curve shape

3. Both suffer economic loss

Both maximize profit

As you know, the goal of every firm is to make a profit. Not just that! But also maximize profit. 

Both perfect competitors and monopolists seek to maximize profit. This would be done by considering the point where marginal revenue equals marginal cost.

Both have the same average cost and marginal cost curve shape

Another similarity between perfect competitive firms and monopolies is the shape of the average and marginal cost curves.

Like other firms, the shape of the average cost of perfectly competitive firms and monopoly is u-shaped. This is because fixed costs initially dominate total costs

However, as production increases, fixed cost becomes insignificant thereby causing the average cost to rise again.

The marginal cost curve of both firms is typically U-shaped. The marginal cost starts relatively high.

it then declines, and then reaches a minimum point. Thereafter, rises as production increases. This reflects the law of diminishing return.

It is important to note, however, that some monopolies do not have a u-shaped marginal cost curve, rather, they have a constant or decreasing marginal cost. This is the case of natural monopolies

Natural monopolies also have a downward-sloping average total cost instead of a u-shaped average cost.

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Both suffer economic loss

Economic loss is not only a feature of perfect competition, it's also a feature of monopoly.

A firm is said to be making an economic loss when the price it is receiving lis lesser than the average total cost at the profit-maximizing point.

Monopolies and perfect competitors alike suffer economic loss. 

Though it might appear that a monopoly wouldn't suffer an economic loss since it is a price maker, this is not the case.

Being a price maker (price searcher) does not guarantee an economic profit. This is because price-makers can only set prices as high as their demand curve allows. 

If the price allowed by the demand curve is less than the average total cost at the profit-maximizing point, he would be suffering an economic loss.

This is the typical case of an industry where the fixed cost is so high that the required price is outside the range that the consumer could afford. 

In this case, the firm would hope that the price it will receive, at least, cover its variable cost. If not, he would shut down immediately.

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