Perfect Competition.

This is a perfectly competitive goods market, later we look at perfectly competitive labour markets, which are very similar in their assumptions. The market structure entirely depends on the conditions the suppliers find themselves in to suit consumer’s needs. Consumers are still consumers, the only difference in them is their bargaining power with the supplier between structures.

Here, all we need to do is state the assumptions of such a market, what this implies on the mini-firm consumers market and supply-demand as a whole. Then, of course, liken this to real-life examples.

The main thing is there are no barriers to entry to become a supplier here. Anyone can open up shop here, with nothing which stops the layperson at all. Also, the goods each supplier offer are homogenous(the same) meaning there is nothing to differentiate the product each firm offers. Brand loyalty is non-existent, the consumer values each firm’s product the same, and will pay the same price for it.  This creates a condition typical of such market. There are many suppliers, each cannot change the market price, as if one contracts/expands output, what they produce is insignificant so wont see a shortage/excess overall(price takers). Finally, there is perfect knowledge between consumers of firm’s prices, and market conditions are known by entrepreneurs equally. Factor Mobility means supply can increase easily and vastly.

What does all of this imply??

To get Customers: Well, no firm can change higher than another. Price elasticity of demand is perfectly elastic, because all goods are the same and consumers have knowledge. If one firm charges higher, it will lose all customers, as they will flock to another offering the same good for the original price. So all firms will change their price to the market price, shown above(none can influence this by changing how much they produce). This is the price business cannot lower anymore before going out of business. This is shown by a horizontal AR and MR curve. The consumer has power over how much is produced, consumer sovereignity.

Costs and Profits: Firms end up earning from their goods the minimum needed to keep them running, and the most optimistic entreprenuer interested. This is normal profit. If there are high profits, or any at all, firms will enter the market and compete it away, as there is nothing to stop them(profit being the incentive, realised here). This also ends up with every firm being productively efficient , producing at lowest cost(where Marginal Cost=Av cost, neither increasing nor diminishing returns). Think, if firms aren’t minimising costs, one will, and be able to undercut all the others, and steal their business. So all end up producing at lowest cost, pricing the lowest they possibly can.

Do PC firms ever get profit?? Yes, but they only can in the short run, where at least one factor is fixed, and the number of firms present is constant. If there is a sudden surge in demand, the market price rises, pushing up the AR and MR curves. All the firms can get away charging a higher price, and can make profits. What happens is outsiders hear about this and decide to enter(profit incentive), shifting supply and price down to normal profit level.

And efficiencies….PC markets as above are productively efficient, no firm can afford to waste inputs and must minimise costs to compete on price. Due to the consumer sovereignity(the market left side always tend to equilibrium) there is allocative efficiency. One thing it does’nt have much of is dynamic efficiency. Any reductions in costs due to tech wil be due to outside factors which the market adopts and the product does not improve over time. There is lack of incentive to innovate due to other firms will replicate what you do instantly, and with normal profits, you cannot really give much to R and D even when you wanted to.

PC Markets in Real Life

In real life, there is no such thing as the exact conditions needed for the PC market. The model is the most extreme of a very competitive market possible. Perfect knowledge is unrealistic, and there will always be some barriers to supplying, even if it’s walking down the beach and setting a stall up. The closest to PC markets are currency markets, commodity markets(gold, soybeans etc, although this supply will be quite rigid) some online trading, small corner shops and market stalls. All lack very high entry barriers(prob most defining trait).

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3 Responses to Perfect Competition.

  1. Pingback: My Space. « Zahablog's Economic Page

  2. Chris Foster says:

    Thanks for this clear and pretty concise explanation. I’m wondering about your use of a vegetable market as an example. Certainly there are shades of grey, but most of the stands I’ve seen put a fair amount of effort into differentiating themselves, location, signage, bikinis, layout, etc. Vegetables at the wholesale level, I’d agree with you, but most retail sales seem more monopolistically competitive to me. Thoughts?

  3. zahablog says:

    I know what you mean, as for instance we have different apple brands such as Granny Smith, Cox’s, Braeburn; when this happens it’s more oligopoly than MComp though due to the barriers to entry being higher than, say, setting up a restaurant or newsagents. A typical market stall selling vegetables which (often) aren’t branded is near as PC you can get.

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