AEDM111

INTRODUCTION TO
AGRICULTURAL ECONOMICS
Market Structures

Prepared by TC Molelekoa
Learning Outcomes
At the end of this lesson learners should be able to:
• List the conditions which have to be met for perfect and monopolistic
competition, oligopoly and monopoly.
• Explain the demand curve facing a firm under perfect competition.
• Explain product differentiation
• Understand models in oligopoly
• Explain price discrimination in monopoly
Suppose you want to start a new
business…

• Review the scenarios on the next slide, and decide under which

conditions you would prefer to start your business.

• Give at least two reasons to justify your selection.

The factors that influenced your
decisions are characteristics that
economists use to describe the
level of competition in markets.

• Businesses behave
differently depending
on the type of market
structure in which
they operate.
Market Characteristics
• Number of Firms: How many firms produce this type of
product?
• Type of Product: Do all competing firms make products
that are essentially the same or specialized?
• Barriers to Entry: How easy it is for a firm to enter the
market (competition, start up costs, etc.)?
• Price Setting Power: How much control does a firm have
over the selling price of the product?
PERFECT COMPETITION

• The four basic market structures are defined by how competitive

they are. Perfect competition is the most competitive, with many
producers offering identical products.
Perfect Competition Market
Perfect competition
(1) Large number of buyers and sellers: There is a large number of
buyers and sellers of a commodity under perfect competition
(2) Homogeneous Product: the product sold by the various firms are
homogeneous.
(3) Absence of artificial Restrictions: non-existence of any artificial
restrictions on the demands, supplies, prices of goods and factors of
productions in the market. There must not be any external intervention
in price fixation and any controls on the product.
(4) Free entry and exit: The firms are free to enter or to exit from the
industry whenever they want to do so. Any firm can enter or leave the
industry at any time as there are no legal restrictions.
Cont.
(5) Perfect knowledge about the market: There is perfect
knowledge on the part of buyers and sellers about market
conditions. The buyers and sellers are fully aware of the price
prevailing in the market.
(6) Perfect mobility of the factors of production: It means all the
factors of production are perfectly mobile under perfectly
competitive market. Factors will move to the industry which pays
the higher remuneration.
(7) Non-Existence of transportation cost: A perfectly
competitive market also assumes that it is essential that there is no
transportation cost across different areas of the market.
(8) Firms are price takers and profit maximisers.
HOW MARKET PRICE IS DETERMINED
WHAT HAPPENS IN A COMPETITIVE
MARKET
ADVANTAGES OF PERFECT COMPETITION
Demand Curves for the Firm and the
Industry

• This means that firms will increase their output in response to an

increase in demand even though that will cause the price to fall thus
making all firms collectively worse off.
• Fact is that:
there is no perfect competition market in the world. It is just a
hypothetical concept. It is not possible to be . BECAUSE it
contains
Monopolistic
Competition
• Monopolistic competition lies at
the more competitive end of the
spectrum. It is a market with
many producers offering
similar but slightly different
products. Examples include the
shoe, clothing, and restaurant
industries.
Product Differentiation
• Products are differentiated (based on things like service,
quality, or design).

• The product of a firm is close, but not a perfect substitute

for another firm.

• This differentiation gives some monopoly power to an

individual firm to influence the market price of its
product.
This differentiation can be categorized into
four different groups
1.Physical product differentiation: The way a product looks, including
its colour, size, shape, and so forth.
2.Marketing differentiation: Firms use unique, eye-catching packaging
that differs from that of other brands. Consumers remember this
packaging and are ideally drawn to those products again.
3.Human capital differentiation: This involves defining the unique
value of a brand based on the employees’ skills, their degree of
training, and even the look of their uniforms.
4.Distribution-based differentiation: Using a different kind of
distribution method, such as selling products online, can draw in new
customers and increase profits.
 • Oligopoly is an important form of imperfect
competition.
• Oligopoly markets are characterized by markets

OLIGOPOLY dominated by a small number of large firms.

• Oligopoly is also often referred
“Competition among the Few”.
to as

• The simple case of oligopoly is duopoly which

prevails when there are only two producers or
sellers of a product.
WHY DO WE STUDY OLIGOPOLIES?

•Oligopoly and Monopolistic Competition are

the two market structures that best describe
the real world.
 Small number of sellers

Interdependence

Barriers to entry
CHARACTERISTICS
OF OLIGOPOLY
Indeterminateness of demand curve facing an

Oligopolist

Importance of advertising and selling cost

Strategic interdependence
• Strategic interdependence means that one firm’s output and price decisions
are influenced by the likely behaviour of competitors
• Because there are few sellers, each firm is likely to be aware of the actions
of the others.
• Decisions of one firm influence, and are influenced by, the decisions of
other firms
• This causes oligopolistic industries to be at high risk of tacit or explicit
collusion which can lead to allegations of anti-competitive behaviour
• In oligopoly there is a high level of uncertainty
MODELS OF OLIGOPOLY MARKETS
❖Remember the key points of oligopoly behaviour:
• Mutual interdependence and strategic behaviour
❖Diversity of oligopoly behaviour requires diverse models
❖Three distinct pricing models of oligopoly:
• Kinked Demand Curve (non-collusive)
• Cartels (collusive)
• Price Leadership
•While a competitive firm is a price taker, a monopoly
firm is a price maker
• A firm is considered a monopoly if . . .

• it is the sole seller of its product.

• its product does not have close substitutes.
Why Monopolies • The fundamental cause of monopoly is
Arise? barriers to entry.
Why Monopolies Arise?
• 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.
Monopoly Resources
•Although exclusive ownership of a key resource is a
potential source of monopoly, in practice monopolies
rarely arise for this reason.
Government Created Monopolies

•Governments may restrict entry by giving a single firm

the exclusive right to sell a particular good in certain
markets.
• Patent and copyright laws are two important examples
of how government creates a monopoly to serve the
public interest.
Government Action
• There are two types of government-initiated monopoly: a government monopoly and a
government-granted monopoly.

Government-granted monopolies and government monopolies differ in the decision-making

structure of the monopolist. In a government-granted monopoly, business decisions are made
by a private firm. In a government monopoly, decisions are made by a government agency.

• Key Terms
• Government monopoly: A form of monopoly in which a government agency is the sole
provider of a particular good or service and competition is prohibited by law.
• Government-granted monopoly: A form of monopoly in which a government grants
exclusive rights to a private individual or firm to be the sole provider of a good or service.
• The government creates legal barriers through patents, copyrights, and
granting exclusive rights to companies.

Intellectual property rights are an example of legal barriers that give rise
to monopolies.

• Copyright: A legal concept that gives the creator of an original work

exclusive rights to it, usually for a limited time, with the intention of
enabling the creator to be compensated for his or her work.

• Patent: A declaration issued by a government agency declaring the

inventor of a new product has the privilege of stopping others from
making, using or selling the claimed invention for a limited time.

• The government can provide exclusive or special rights to companies

that legally allow them to be monopolies.
Natural Monopoly
• 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.
• A natural monopoly arises when there are economies of scale
over the relevant range of output.
Regulation
• In practice, regulators will allow monopolists to keep some
of the benefits from lower costs in the form of higher profit, a
practice that requires some departure from marginal-cost
pricing.
Price Discrimination

• Price discrimination is the business practice of selling

the same good at different prices to different customers,
even though the costs for producing for the two
customers are the same.
Price Discrimination

• Price discrimination is not possible when a good is sold in a

competitive market since there are many firms all selling at the
market price. In order to price discriminate, the firm must have some
market power.
• Perfect Price Discrimination
• Perfect price discrimination refers to the situation when the
monopolist knows exactly the willingness to pay of each customer
and can charge each customer a different price.
Price Discrimination

• Two important effects of price discrimination:

• It can increase the monopolist’s profits.
• It can reduce deadweight loss.
Examples of Price Discrimination

Movie tickets
Airline prices
Discount coupons
Financial aid
Quantity discounts