Share or stock exchange market is regarded as a god example of perfectly competitive market because the feature of such markets follow the assumption of perfectly competitive market. In the share market, there exist very large number of groups. There a numerous buyers, seller, market makers and public corporation. Buyers in the market are investors making purchase of shares. The owners of share are the sellers who are willing to sell their share in exchange of cash. The market is usually large with large number of buyers and sellers with each having no control over the market. Like perfect competition, buyers and sellers in BP share market accept the market-determined price (Beveridge 2013). Each share has equal chance of making profit or loss and is thus identical. This matches the assumption of homogenous good under perfect competition. Same as perfect competition sellers and buyers have complete knowledge about the product sold in the market. As the features of BP share market signify various characteristics competitive market, such market is identified as a perfectly competitive market.
Part a: Market equilibrium price and quantity
In the New Zealand egg market, the demand function is given as
Equilibrium number of eggs in the market is 300.
The equilibrium price in the market can be obtained from putting equilibrium quantity in either market demand or market supply function (Carbaugh 2016).
Equilibrium price
Equation of marginal cost of egg firm owned by Victor is given as MC = 2q + 1.
Profit maximization condition of a single firm under perfect competition is given as
Profit is total revenue less total cost
The firm is in short run equilibrium. Under the current scenario, total revenue of Victor’s firm exceeds total cost yielding a positive economic profit for the firm. It is possible only in short run equilibrium. In long run, the situation however will change (Frank, Bernanke & Johnston 2013). With higher than economic profit, there will be entry of new firms. This eliminates all the excess profit and there remain only normal profit.
In the long run production takes place at the minimum point of average variable cost. Long run price and quantity thus can be determined from the given average total cost function.
Price in the long run
Under long run,
Profit in the long run falls to zero as total revenue is just enough
Predicted quantity in the long run can be obtained from market demand function.
Part a: Zero economic profit
One important feature of perfectly competitive market is the firms are allowed to enter or exit the market by their choice. No restriction is placed on entry or exist of firm. Competitive firms in the short run can earn a supernormal profit by charging price above the average cost. Short run profit however is not sustained in the long run. Supernormal profit in the short run encourages new entrants in the industry (Gottheil 2013). As number of firm increases in the industry, the market supply increases. With excess supply, high price cannot be sustained. As a result, with entry of new firms price starts falling and so is the profit. Long run adjustment continues until the industry left with only normal or zero economic profit.
Part b: Short run loss under perfect competition
i)
The choice of firms in the short run is subject to position of average variable cost. As firms in the short run can only change variable factor, the only cost matters is the average variable cost. When market price is lower than total average cost then firms make. The firm sill might choose to stay in the market if price is higher than average variable cost (Hirschey & Bentzen 2016). Under this circumstance, firm though unable to recover total cost of production but is can cover total variable cost and part of the fixed cost.
ii)
The shutdown point is defined as a point where firm completely closes down its operation as neither the variable nor the fixed cost can be covered from continuing production. This is the case when market price is set below the minimum point of average variable cost (Mathur & Sinitsyn 2013, vol. 31, pp.404-416). As firms are unable to cover any of the cost, it decides to shut-down plants and leave the industry.
Figure 1: Competitive firm’s short run supply curve
(Source: as created by Author)
Supply curve of firm depicts the relation between price and quantity produced by the firm. Competitive firm choses level of output where price equals the price. In the short run, operation under perfectly competitive market continues until price is above or equal the minimum average variable cost (Melvin & Boyes 2013). Below this price, output of individual firm is zero (case described in b.ii). The short run supply curve in the competitive market is thus represented by the marginal cost curve covering ranges of output associated higher or equal average variable cost. In between minimum points of average variable and average total cost firm incur loss but sill continue production.
Part a: Marginal Revenue and profit maximization under monopoly
i)
The marginal revenue captures change in total revenue following per unit change in quantity.
Corresponding to different values of output, the marginal revenue is obtained as
Figure 2: Marginal revenue curve
ii)
The condition of profit maximization in the market is given as
Corresponding to equilibrium price and quantity, total revenue, total cost and profit can be determined as
The above situation describes the short run scenario. The monopoly firm in the short run earn a profit of $83066.75.
In long run, due to sufficient time the firm can take decision regarding expansion of the existing plant. Size of plant in the long run depends on the state of market demand. The monopolist is the price maker in the market. The monopolist can expand plant up to the LAC minimum or to operate to the left of LAC minimum or can expand beyond optimal level (Pindyck & Rubinfeld 2014). The monopoly firm can maintain a positive economic profit in the long run by adjusting plant size.
Part a: Comparison of monopolistic competition and perfect competition
Monopolistically competitive market has features of both competitive and monopoly market. The Auckland City’s café market has a large number of seller like that in the perfectly competitive market. Any new café can be easily opened with no entry barriers. In both for of market, long run market is characterized as having only normal or zero economic profit. Unlike perfect competition, each café owner tries to make its coffee different from the rival firms (Sloman & Jones 2017). In the long run the monopolistically competitive firms operates with excess capacity but competitive firms operate at socially efficient point.
Part b: Introduction of new and innovative product
If one firm in the monopolistically competitive market introduces new, improved product then demand of the new product increases. As firm with new, improved product faces higher demand the demand for other incumbent firms reduces shifting the demand curve downward (Pindyck & Rubinfeld 2014). The downward movement of incumbent firms’ demand curve reduces both equilibrium price and quantity of each of these firms.
Part c: Flatter demand curve for firm
Price elasticity of demand is the main determinant of slope of the demand curve. In a monopolistically competitive market, numerous firms compete in the market. Demand faced by each firm in the market is thus highly sensitive to its own price. Small change in price makes a huge difference on quantity demanded because of high substitutability among the products of different firms (Carbaugh 2016). Market demand other hand is relatively less elastic as consumers are less likely to substitute the entire consumption. Faced with a higher elasticity each firm is flatter as compared to market demand curve.
Part d: Monopolistic competition and inefficiency
In the cereals market, existence of many brands makes the market inefficient in the sense that each brand owners operate in the market with an excess capacity (Melvin & Boyes 2013). The cereal market is monopolistically competitive with presence of so many brands. As monopolistically competitive firm in the long-run operates at a suboptimal range of output, presence of may brands indicates inefficiency.
Part a: Oligopoly market and kinked demand curve
In an oligopoly market, there are small number of large firms. Because of the presence of a few firms, an interdependence among firm is observed in the market. Firm in the oligopoly market can sell either homogenous or differentiated product. In case of homogenous product, the market is called pure oligopoly while market with differentiated product is called differentiated oligopoly (Beveridge 2013). Firms engage in price or non-price competition. High barriers for new entrants, group behavior are some other features of oligopoly market.
Price in the oligopoly market remains rigid due to the presence of kinked demand curve having two different elasticity below and above the kink. The hypothesis of kinked demand curve as proposed by Paul M. Sweezy (Frank, Bernanke & Johnston 2013). At the existing market price, there is a kink in the market demand curve. Firms do not have any incentive either to increase to decrease the market price. When firm raises price then demand falls sharply because of high elasticity. In contrast, if one firm reduces price then the firm does not gain much as all other do the same making demand inelastic.
Part b: Cartel
OPEC and CIPEC, both are examples of collusive oligopoly. The two cartel however differs in their structure. OPEC, presently having 14 member countries is successful in maintaining a high price at least in the short run. OPEC’s success is mainly derived from inelastic nature of supply and demand of oil. OPEC having control over a major share of world oil supply is successful is maintain artificial shortage of oil (Vatter 2017, Vol. 63, pp.272-287). CIPEC, cartel formed with copper producing countries failed to raise price in the copper market mainly due to elastic demand and supply of copper and have control over a relatively small portion of world supply.
The two central condition for successful cartelization thus derived as inelastic demand of product for which cartel is formed and members of the cartel should have a good control over global supply (Hirschey & Bentzen 2016). As cartel is not a formal organization its often faces several organizational problem. Setting a mutually exclusive price arrangement, observing behavior of the member, unequal division responsibilities are some of the organizational problem of cartel.
References
Beveridge, T., 2013. A primer on microeconomics. [New York, N.Y.] (222 East 46th Street, New York, NY 10017): Business Expert Press.
Carbaugh, R., 2016. Contemporary Economics. Milton: Taylor and Francis.
Frank, R., Bernanke, B. and Johnston, L., 2013. Principles of microeconomics. New York: McGraw-Hill/Irwin.
Gottheil, F., 2013. Principles of microeconomics. Mason, Ohio: South-Western/Cengage Learning.
Hirschey, M. and Bentzen, E., 2016. Managerial economics. Andover: Cengage Learning.
Mathur, S. and Sinitsyn, M., 2013. Price promotions in emerging markets. International Journal of Industrial Organization, 31(5), pp.404-416.
Melvin, M. and Boyes, W., 2013. Principles of microeconomics. [Mason, Ohio?]: South-Western Cengage Learning.
Pindyck, R. and Rubinfeld, D., 2014. Microeconomics, Global Edition. Harlow, United Kingdom: Pearson Education Limited.
Sloman, J. and Jones, E., 2017. Essential economics for business. Harlow, England: Pearson.
Vatter, M., 2017. OPEC’s kinked demand curve. Energy Economics, 63, pp.272-287.
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