Economics

Types of Market Structure

A market is a set of sellers and buyers whose behavior affects the price at which a good is

sold.

In this review we'll see that the type of market a firm operates in has a large impact on the

firm's behavior. Firms have no control over price under perfect competition. But firms

have tremendous control over price in a monopoly setting.

Economists describe different types of markets by:

(1) the number of firms

(2) whether the products of different firms are identical or different

(3) how easy it is for new firms to enter the market.

The four major types of markets can be viewed on a continuum.

Perfect

Competition

Monopolistic

Competition

Oligopoly Monopoly

Figure 7-1

Perfect competition is at one extreme with many small firms selling identical products.

Monopoly is at the other extreme with just one firm. The intermediate cases are

monopolistic competition (which involves many small sellers producing slightly

differentiated products) and oligopoly (which involves a small number of large firms).

Most U.S. firms operate under monopolistic competition (e.g., novels, movies, clothing,

etc.) or oligopoly (tennis balls, crude oil, automobiles, etc.). However, this review will

focus on the two extremes: perfect competition and monopoly.

There are three conditions required for perfect competition.

(1) Numerous small firms and customers. The decisions of individual producers and

buyers do not affect the price of the good.(2) Homogeneity of product. The products offered by sellers are identical. For example,

wheat of a particular grade is homogeneous (while ice cream is not). If the product is

homogeneous, consumers don't care from which firm they buy the good because their

products are identical.

(3) Freedom of entry and exit. There are no barriers to enter the industry, so new firms

can compete with old ones relatively easily. They do not have to match the

advertising of the existing firms to secure...