MARKET STRUCTURE — MEANING AND CHARACTERISTICS OF THE 4 TYPES

Markets are classified based on certain structural characteristics, which are referred to as market structure.

More appropriately, market structure refers to the way and manner in which goods and services are supplied by firms in the market.

It refers to how a market is organized based on the number of firms in the market and the barriers to entry for new firms.

It can also be defined as the nature and degree of competition among firms in a given industry.

Factors determining market structure

1. Number of firms: The number of firms in a market can reveal the market structure

A high number of firms, for example, may indicate that the market structure is perfect competition, whereas a single firm in the market indicates that the market is a monopoly.

2. Ease of entry: Another factor to consider when determining market structure is how easy or difficult it is to enter the market.

If it is simple to enter a market, for example, this indicates that perfect competition exists

3. Goods type: A perfectly competitive market exists when the goods are homogeneous.

A monopolistic competitive market exists when goods are significantly differentiated.

An oligopoly exists when goods are either differentiated.

A monopoly exists when goods have no close substitutes.

Types Of Market Structures

Perfect competition, monopoly, oligopoly, and Monopolistic competition are the four major types of market structure.

Perfect competition

This is a market structure where many buyers and sellers have perfect knowledge of the prevailing market conditions.

Another name for perfect competition is pure competition.

Characteristics of perfect competition

1. Many buyers and sellers: There are a large number of buyers and sellers in a perfectly competitive market who have perfect knowledge of the current market condition and price

Thus, it can be said that buyers and sellers of a perfectly competitive firm are fully informed about the market conditions.

2. Goods are homogenous: Goods sold in a perfectly competitive market are homogeneous, at least in the eyes of the consumer.

That is, they are identical in value and quality.

For this reason, goods sold in a perfectly competitive market are perfect substitutes because their homogeneity allows them to be easily substituted for one another.

3. Perfect competitive firms are price takers: Because no single firm can influence the market price, perfectly competitive firms are price takers.

4. Basis of market prices: In perfect competition, the forces of demand and supply determine the market price.

This is why no individual perfect competitive firm can set prices by itself.

5. Easy entry: There is no barrier to entry and exit to and from the perfect market.

6. Independence: In perfect competition, sellers or buyers can work together to control prices.

Monopoly

This is the direct opposite of perfect competition.

It is a market structure where a single firm controls the market supply of a good with no close substitute.

Because the monopolist has no competitor, the distinction between the firm and the industry is irrelevant in monopoly.

The most cited example of a monopoly is the de beers company, which controlled over 80% of the diamond distribution from 1880 to 2000.

Characteristics of monopoly

1. Sole supplier: In a monopoly, a firm has complete control over the supply of goods.

In effect, the firm's supply is the market supply.

2. Monopolists possess market power: Monopolists are price markers because they can control prices.

You might be asking: how does monopoly control prices?

A monopoly can control market price simply by controlling market supply. 

As he is the sole supplier in the market, a reduction in the supply of monopoly will reduce market supply, causing prices to rise.

3. High barrier to entry: This is one of the most important characteristics of a monopoly.

Barriers to entry and exit are the legal and technological factors that can hinder a firm from entering or exiting a market.

The presence of a high barrier to entry ensures that the monopoly has no competitors.

4. Unavailability of close substitutes: By definition, a monopoly is a market structure where a sole firm controls the supply of a good which has no close substitute.

Because a monopolist has no competitor, his goods do not have close substitutes.

Monopolistic competition

This is a market structure where there are many buyers and sellers of slightly differentiated goods.

This product differentiation may be real or imaginary

1. Real product differentiation: This refers to variations in the product's shape, colour, or packaging.

2. Imaginary product differentiation: Here, buyers are made to believe that goods are truly different through advertisement and other forms of promotion

Characteristics of monopolistic competition

1. Goods are differentiated: Goods sold in monopolistic competitive markets are not homogenous. They are, instead, differentiated.

2. Close substitutes: As a result of product differentiation, goods sold in monopolistic competition are close but not perfect substitutes.

3. Monopolistic competitors are monopolists to some extent: Goods sold by monopolistic competitors are differentiated and each firm is the sole producer of a specific brand of the product.

In this sense, a monopolistic competitor is a monopolist of his product.

4. Competition exists: Even though the products are differentiated, competition still exists because the goods are close substitutes.

5. Monopolistic competitors are price makers: Monopolistic competitors are price makers because, due to product differentiation, they have some control over their prices.

6. Low barriers to entry and exit: Barriers to entry and exit are low in monopolistic competition because it is easy for a firm to recoup its capital expenditure upon exit of the market.

7. Existence of non-price competition: Because the product is slightly differentiated, price competition is not relevant in monopolistic competition.

What is relevant is non-price competition. Advertisements may be used by a monopolistic competitor to persuade people that his product is superior to others.

If he succeeds at this, he may be able to charge a high for his product (but not too much due to the presence of competition)

Oligopoly

This is a market structure where the total market output is concentrated in the hands of a few firms.

Airlines, phone companies, and car companies are all oligopolies.

Characteristics of Oligopoly

1. Dominated by a few firms: An oligopoly is dominated by a few large firms that can influence market production through supply.

2. Nature of goods: Goods in an oligopoly may be identical or slightly differentiated.

3. Interdependence: The output and pricing decision made by each oligopolist is more or  less influenced by the pricing and output of other competitors

For example, if an oligopolist decides to cut prices, other oligopolies may follow suit to avoid losing market share (dominance).

In effect, a firm can directly affect market price simply by cutting price because other firms would likely follow suit to avoid losing market shares.

Oligopolies must think strategically before making sales, price, or output decisions because of their interdependence.

4. High barriers to entry: There are substantial barriers to entry in oligopolies arising from economies of scale.

Few firms can dominate the industry. because of the high barriers to entry.

5. Oligopolies are price makers: Oligopolies are price makers (or price searchers) because they can influence the price.

Tabular representation of the characteristics of perfect competition, monopolistic competition, monopoly, and oligopoly


Market/featuresPerfect competition Monopolistic competition OligopolyMonopoly
Market powerNone as there are price takersLittleLimitedAbsolute
Economic profitzeroPositivePositiveHigh
Allocative efficientyesnonono
Productive efficient yesnonono
Numbers of firmsVery manymanyfewJust one
Ease of entryVery easily Somewhat easily Not easily Difficult
Goods typeHomogenousDifferentiatedHomogenous or differentiatedOne of its  kind

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