Market structure

 In economics, the term market structure refers to the key characteristics of

a particular market. These features include:
 The number and size of fi rms in the market
 The degree and intensity of price and non-price competition
 The nature of barriers to entry (are the obstacles that prevent firms from
entering a market. Examples are the existence of intellectual property rights, large
advertising budgets of existing firms and legal constraints to prevent wasteful
competition.)
 The two extreme market structures in economics are highly competitive
markets and monopoly.

Perfect Competition
 In a perfectly competitive market, there will be many sellers and many
buyers – a lot of different firms compete to supply an identical
(homogenous) product.
 As there is fierce competition, neither producers nor consumers can
influence market price – they are all price takers.
 If any firm did try to sell at a high price, it would lose customers to
competitors. If the price is too low, they may incur a loss. There will also be
a huge amount of output in the market.
 It is also possible for firms in a competitive market to produce
differentiated products rather than homogenous ones. This can be done by
using branding, different product designs, colours, quality, and slogans
(catchphrases).
High consumer sovereignty: consumers will
have a wide variety of goods and services to
choose from, as many producers sell similar - Wasteful competition: in order
products. Products are also likely to be of high to keep up with other firms,
quality, in order to attract consumers.
producers will duplicate items;
+ Low prices: as competition is fierce, this is considered a waste of
producers will try and keep prices low to
attract customers and increase sales.
resources.
+ Efficiency: to keep profits high and lower - Mislead customers: to gain
costs, firms will be very efficient. If they aren’t more customers and sales, firms
efficient, they would become less profitable. might give false and exaggerated
This will cause them to raise prices which claims about their product, which
would discourage consumers from buying would disadvantage both
their product. Inefficiency could also lead to customers and competitors.
poor quality products.

Monopoly
 Monopoly is a market structure where there is only one supplier of a good
or service, with the power to affect market supply and prices.
 Example: Indian Railways.
 Since customers have no other firms to buy from, monopolies can raise
prices – that is they are able to influence prices (price makers) as it will not
affect their profitability. These high prices result in monopolies generating
excessive or abnormal profits.
 Monopolies don’t face competition because the market faces high barriers
to entry – obstacles preventing new firms from entering the market. That
is, there might be high start-up costs (sunk costs), expensive paperwork,
regulations etc.
If the monopoly has a very high brand loyalty or pricing structures that
other firm couldn’t possibly compete with, those also act as barriers to
entry.
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 Disadvantages:
 There is less consumer sovereignty: as there are no (or very little) other
firms selling the product, output is low and thus there is little consumer
choice.
 Monopolies may not respond quickly to customer demands.
 Higher prices.
 Lower quality: as there is little or no competition, monopolies have no
incentive to raise quality, as consumers will have to buy from them
anyway. (But since they make a lot of profit, they may invest a lot in
research and development and increase quality).
 Inefficiency: With high prices, they may create high enough profits that,
costs due to inefficiency won’t create a significant problem in their
profitability and so they can continue being inefficient.

 Why monopolies are not always bad (Advantages of monopolies)?

 As only a single producer exists, it will produce more output than what
individual firms in a competition do, and thus benefit from economies of
scale. This means monopolies can supply larger quantities of output
and at lower prices.
 Monopolists have the financial resources to invest in innovation.
Research and development expenditure can help to generate new ideas,
products and production processes. Innovation can therefore act as a
source of profit and improve the productive capacity of the economy
 They can still face competition from overseas firms.
 They could sell products at lower price and high quality if they fear new
firms may enter the market in the future.
 They could eliminate unnecessary competition.

[Note that if monopolies exploit their market power and act against the public
interest, perhaps by deliberately charging unreasonably high prices, then the
government can intervene.]
Past paper questions (Paper 1)
Question 4
Question Answer Marks
1 B 1
2 A 1
3 A 1
4 A 1
5 B 1
6 A 1
7 B 1
8 A 1
9 B 1
Past paper questions (Paper 2)

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Question 4

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Question Answer Marks

1  many buyers 2
 many sellers
 no barriers to entry (and exit)
 (firms are) price takers
 Identical / homogeneous product
 no attachment between buyers and sellers
 perfect knowledge

2 Up to 4 marks why it is beneficial: 6

 Competition will lead to airline being forced to be more
efficient (1) productivity increase (1) use latest technology (1)
reduce wasteful spending (1) quality increases (1) cost of
production goes down (1) prices become more affordable (1)
increase in quantity demanded (1) total revenue and profit
increases (1).

Up to 4 marks why it is not beneficial:

 Too much competition means less market share for each airline
(1) less quantity demanded (1) airlines may have to
advertise more (1) increase cost of production (1) total revenue
and profit decreases (1) airlines who can’t compete may go
 bankrupt / leave the market (1)
 Too much competition may result in the airline being small (1)
cannot take advantage of economies of scale (1)
 An airline may not benefit from becoming more competitive (1)
because of brand loyalty (1) lower demand for air travel (1)

3 Level 3 (6-8 Marks) 8

A reasoned discussion which accurately examines both sides of the
economic argument, making use of economic information and clear and
logical analysis to evaluate economic issues and situations. One side of
the argument may have more depth than the other, but overall, both
sides of the argument are considered and developed. There is
thoughtful evaluation of economic concepts, terminology, information
and/or data appropriate to the question. The discussion may also point
out the possible uncertainties of alternative decisions and outcomes.

Why it should:

 monopolies may be able to take advantage of economies of

scale
 may be able to experience lower average costs and charge lower
prices
 may earn high profits and so be able to spend on investment and
research and development
 may be able to produce high quality products
 may be internationally competitive
 maybe nationalised monopolies with welfare objectives

Why it should not:

 maybe market failure/abuse market power

 may charge high prices
 may restrict output
 may become complacent
 may not improve quality

Example of Level 3 answer:

Yes, the government should allow monopolies. It will prevent

duplication of goods due to unique products with no close substitutes
produced. This can reduce the wastage of resources. Monopolies can
also benefit from economies of scale as they produce in large
quantities so they can benefit from cost saving by negotiating
 favourable prices as a result of bulk buying. This can translate into
lower prices for consumers, increasing their ability to consume more
goods and services, boosting economic growth and their standard of
living.

Since it is possible for monopolies to earn supernormal profits, they

are more able to spend more on research and development of their
products, improving quality for consumers.

No, they should not allow monopolies. Due to them being a single
seller, this allows them to exploit consumers by charging higher prices
as there is imperfect information and they are the only firm in the
market, consumers have no choice but to buy the unreasonably priced
products which means consumers spend too much in the long run and
may even cause inflation to rise too. Monopolies may also increase
income inequality as the producer gains at the expense of their
consumers, especially those on lower incomes, causing poverty for
those on low incomes especially if these products are essential goods
and services such as food and utilities.

Principal Examiner comment:

This is a well thought out response with strong arguments on both sides
and several aspects analysed.
4  one supplier in monopoly (1) many suppliers in a competitive 4
market (1)
 a monopoly has 100% share of the market (1) one perfectly
competitive firm will have a small share of the market (1)
 barriers to entry and exit in monopoly (1) free entry and exit in
perfect competition (1)
 a monopoly is a price maker (1) while a competitive firm is a
price taker (1)
 a monopolist may advertise (1) no advertising in perfect
competition (1)
 there may be brand loyalty in monopoly (1) but no attachment
between buyers and sellers in a competitive market (1)
 there are no substitutes in a monopoly (1) there are perfect
substitutes in a competitive market (1)