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Microeconomics Unit III: The Theory of the Firm An Introduction to Market Structure…

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Page 1: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Microeconomics Unit III: The Theory of the Firm

An Introduction to Market Structure…

Page 2: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

The selling environment in which a firm produces and sells its product is called the market structure.

Defined by three characteristics:1. Number of firms in the market2. Ease and entry and exit of firms3. Degree of production differentiation

Market Structure

Page 3: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Perfect competition, with an infinite number of firms, and monopoly, with a single firm, are polar opposites

Monopolistic competition and oligopoly lie between these two extremes

Introduction….

Page 4: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

A perfectly competitive market has the following characteristics:There are many buyers and sellers in the

market.The goods offered by the various sellers are

largely the same.Firms can freely enter or exit the market.Producers and Consumers are relatively well-

informedBuyers and sellers act independent.

What is a competitive market?

Page 5: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

As a result of its characteristics, the perfectly competitive market has the following outcomes:The actions of any single buyer or seller in the

market have a negligible impact on the market price.

Each buyer and seller takes the market price as given.

What is a competitive market?

Page 6: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

A competitive market has many buyers and sellers trading identical products so that each buyer and seller is a price taker.Buyers and sellers must accept the price

determined by the market.

What is a competitive market?

Page 7: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

MR=D=AR=PSince a perfectly competitive firm cannot

alter price as it increases output, total revenue is proportional to the amount of output.

The Revenue of a Competitive Firm

Page 8: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

While a competitive firm is a price taker, a monopoly firm is a price maker.

Monopolies

Page 9: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

A firm is considered a monopoly if …it is the sole seller of its product.its product does not have close substitutes.

Monopolies

Page 10: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

The fundamental cause of monopoly is barriers to entry.

Why do monopolies arise?

Page 11: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Barriers to entry have three sources:Ownership of a key resource.The government gives a single firm the

exclusive right to produce some good.Costs of production make a single producer

more efficient than a large number of producers.

WHY MONOPOLIES ARISE

Page 12: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Although exclusive ownership of a key resource is a potential source of monopoly, in practice monopolies rarely arise for this reason.

Monopoly Resources

Page 13: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Governments may restrict entry by giving a single firm the exclusive right to sell a particular good in certain markets.Patents and copyrights

Government-Created Monopolies

Page 14: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

An industry is a natural monopoly when a single firm can supply a good or service to an entire market at a smaller cost than could two or more firms.

Natural Monopolies

Page 15: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

A natural monopoly arises when there are economies of scale over the relevant range of output.

Natural Monopolies

Page 16: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Monopoly versus CompetitionMonopoly

Is the sole producerFaces a downward-sloping demand curveIs a price makerReduces price to increase sales

Competitive FirmIs one of many producersFaces a horizontal demand curveIs a price takerSells as much or as little at same price

HOW MONOPOLIES MAKE PRODUCTION AND PRICING DECISIONS

Page 17: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Imperfect competition refers to those market structures that fall between perfect competition and pure monopoly.Monopolistic competition

Many firms selling products that are similar but not identical.

OligopolyOnly a few sellers, each offering a similar or

identical product to the others.

Monopolistic Competition

Page 18: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure
Page 19: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Markets that have some features of competition and some features of monopoly.Attributes of Monopolistic Competition

Many sellers

Product differentiation

Free entry and exit

Monopolistic Competition

Page 20: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Product DifferentiationEach firm produces a product that is at least

slightly different from those of other firms.Rather than being a price taker, each firm

faces a downward-sloping demand curve.

Monopolistic Competition

Page 21: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Free Entry or ExitFirms can enter or exit the market without

restriction.The number of firms in the market adjusts

until economic profits are zero.

Monopolistic Competition

Page 22: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Because of the few sellers, the key feature of oligopoly is the tension between cooperation and self-interest.

MARKETS WITH ONLY A FEW SELLERS

Page 23: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Characteristics of an Oligopoly MarketFew sellers offering similar or identical

productsInterdependent firmsBest off cooperating and acting like a

monopolist by producing a small quantity of output and charging a price above marginal cost

MARKETS WITH ONLY A FEW SELLERS

Page 24: Microeconomics Unit III: The Theory of the Firm. The selling environment in which a firm produces and sells its product is called the market structure

Visual 3.1http://apeconomics.ncee.net

Different Types of Market Structures