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NIOS Class 12 Economics Chapter 21 Forms of Market
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Forms of Market
Chapter: 21
Module – VIII: Market And Price Determination
TEXT BOOK QUESTIONS WITH ANSWERS
INTEXT QUESTIONS 21.1.
Q.1. What is a market? Explain its salient features.
Ans. Market is the heart and soul of modern economic life. Without market, producers’ and consumers’ activities hardly make any sense. In common parlance, market is assumed to be a place where goods are bought and sold. But in economics, the term ‘market’ does not refer to a specific place. Rather, it is a mechanism through which buyers and sellers come into contact with each other and buy and/or sell goods at mutually agreed prices.
Main features of a market include:
1. Buyers and Sellers: Buyers and sellers must come into contact with each other for a market to exist. It is only after the contact between the buyer and the seller, that a transaction takes place.
2. Area: You can easily find a market place nearer to a human settlement. But in today’s world, the market is not limited to a particular place. Today, in the age of Internet, we have a rapidly growing online market which is not limited to any geographical area. A buyer can place order to buy a good online. So modern market exists physically and virtually.
3. Commodity: The transaction between buyer and seller has to be over some good or service. So a commodity becomes the integral part of a market.
4. Different forms of competition: Forms of market depends on the degree of competition among the sellers selling the goods, where the degree of competition it self is determined by the inter relationship of among the goods and services sold by different sellers as well on number of sellers present in the market.
5. Money transaction: Money is the mediums of exchange in the modern day world. Consumers pay money to the seller to buy goods as services in the market. So money and market are inseparable.
Q.2. Define market structure.
Ans. The market structure are based on the above mentioned characteristics, we can classify different markets in the way as shown in the following chart:
On the basis of degree of competition among sellers, we can say that while monopoly does not have any competition, on the other hand perfect competition has maximum degree of competition. Oligopoly and monopolistic competition lie between these two extreme market forms.
Q.3. Bring out main features of a market.
Ans. Market is generally understood to means particular place of locality where goods are bought and sold. However, in any particular place or locality does not mean market where goods are bought and sold. The buyers and sellers need not assemble at a particular locality for the buying and selling. The goods can be bought and sold without the direct contact between the buyers and sellers.
Now-a-days the contact can be made through wireless and cables. In Economics market refers to the market for a commodity. Thus, the essential features of market are:
(a) a commodity which is bought and sold.
(b) existence of buyers and sellers.
(c) a place.
(d) The contact between buyers and sellers.
Market consists of different forms like perfect competition, imperfect competitions, etc. Below are given some of the important characteristic features of a perfectly competitive market:
1. Very large number of buyers and sellers: In a perfectly competitive market, there is a very large number of buyers and sellers. For instance, if a single seller tries to raise the price, there is a large number of other sellers selling identical product at a lower price. Therefore, the demand for this particular firm decreases forcing it to come in line again with the industry determined price.
2. Homogeneous Product: The products offered by different firms are homogeneous in every respect so that the buyer does not have any basis to prefer the goods of one seller over the goods of another seller. The goods are identical in terms of quality, size, packing and other terms of deal etc. This feature ensures the uniformity of the price throughout the market.
3. Firm is a Price Taker: The firm has to sell the goods at a price determined by the industry as the firm has no control over the price. The market or industry determines this price on the basis of market demand and market supply as shown in the figure. So industry is the price maker and firm is the price taker.
4. Free Entry and Exit: Under perfect competition firms are free to enter into the market or exit from the market at any point of time. This means that there is no obstruction from any where for a new firm to produce the same product produced by the existing firms in the market; similarly if a firm wishes to exit then it is free to do so.
5. Perfect Knowledge: This feature implies that both sellers and buyers have perfect knowledge about the goods and their prices so that it is not possible for a firm to charge a different price. It also ensures uniform price for the buyers and uniform cost function for the producers.
6. Perfect Mobility: The goods as well as the factors of production are perfectly mobile so that there is no restriction- legal or monetary (involving expenditure in movement of goods). This feature ensures that the price throughout the market tends to be uniform.
7. No Selling Costs: Selling costs are the costs aimed at promotion of sales of product of a firm, e.g. expenditure on advertisement of a product. In perfect competition, there is no need to incur selling cost because of assumption of perfect knowledge and homogeneous goods. This implies that if people have complete knowledge about the product, the seller does not find it necessary to educate consumers through advertisements. Similarly, when goods are homogeneous, there is no basis on which the seller can claim superiority of his products over the products of its rivals.
Q.4. On what basis, can different market structures be distinguished from one another?
Ans. Market structures depend on the number and relative strength of buyers and sellers and degree of collusion among them, levels and forms of competition, extent of product differentiation, and ease of entry into and exit from the market.
Monopolistic competition, a type of imperfect competition such that many producers sell products or services that are differentiated from one another (e.g. by branding or quality) and hence are not perfect substitutes. In monopolistic competition, a firm takes the prices charged by its rivals as given and ignores the impact of its own prices on the prices of other firms.
Oligopoly, in which a market is run by a small number of firms that together control the majority of the market share. Duopoly, a special case of an oligopoly with two firms.
Monopsony, when there is only a single buyer in a market. Perfect competition, a theoretical market structure that features no barriers to entry, an unlimited number of producers and consumers, and a perfectly elastic demand curve.
Q.5. Which is the most competitive market structure?
Ans. The level of competition in a market can be described on a spectrum from purely monopolistic, in which a single company is the sole producer of a particular good or service, to purely competitive, in which a sufficient number of firms are of relatively equal size such that no one company can influence the market in any way. Most small businesses will, almost by definition, be unable to exert any significant influence on the market. If a market is comprised almost exclusively of such small businesses, it will exhibit the characteristics of a competitive market structure.
Q.6. Which the least competitive market structure?
Ans. The imperfectly competitive structure is quite identical to the realistic market conditions where some monopolistic competitors, monopolists, oligopolists and duopolists exist and dominate the market conditions. The element of Market Structure include the number and size distribution of firms, entry conditions, and the extent of differentiation.
Q.7. Is it necessary for a market to be some specific place?
Ans. Marketing pertains to the interactive process that requires developing, pricing placing, and promoting goods, ideas, or services to facilitate exchanges between customers and sellers to satisfy the needs and wants of consumers. Thus, at the very centre of the marketing process is satisfying the needs and wants of customers.
INTEXT QUESTIONS 21.2.
Q.1. What is perfect competition? Explain its various features.
Ans. Perfect competition is a form of market where there is a large number of buyers and sellers of a commodity. Homogeneous products are sold with no-control over price by an individual firm.
Features:
(1) Very large number of buyers and sellers.
(2) Homogeneous Product.
(3) Free entry and exit of firms.
(4) Perfect knowledge about the market.
(5) Perfect mobility of factors of production.
(6) Absence of Transportation and selling cost.
Q.2. What is the relevance of the feature of ‘Large number of buyers and sellers’ in perfect competition?
Ans. Implication of large number of buyers in a perfectly competitive market: Large number of buyers in a perfectly competitive market implies that share of each buyer to total market demand is so small that no single buyer can influence the price of the good. It shows the in-effectiveness of a buyer in influencing the price. He has to buy the goods at given price in perfect competitive market.
Implication of a large number of sellers in a perfectly market: The implication of a large number of sellers in a perfectly market is that the share of each seller to total market supply is so small that no single seller can influence the price. Hence it has no option but to sell the product at the price determined by the industry. It is of this position that each firm is said to be price taker in perfect competition.
Q.3. Why is there no need of selling cost in perfect competition?
Ans. The assumptions of the model of perfect competition, taken together, imply that individual buyers and sellers in a perfectly competitive market accept the market price as given. No one buyer or seller has any influence over that price. Individuals or firms who must take the market price as given are called price-takers. A consumer or firm that takes the market price as given has no ability to influence that price. A price-taking firm or consumer is like an individual who is buying or selling stocks. He or she looks up the market price and buys or sells at that price. The price is determined by demand and supply in the market-not by individual buyers or sellers. In a perfectly competitive market, each firm and each consumer is a price-taker. A price-taking consumer assumes that he or she can purchase any quantity at the market price-without affecting that price. Similarly, a price-taking firm assumes it can sell whatever quantity it wishes at the market price without affecting the price.
Q.4. What is the shape of demand curve for a product under perfect competition?
Ans.
In a perfectly competitive market the market demand curve is a downward sloping line, reflecting the fact that as the price of an ordinary good increases, the quantity demanded of that good decreases. Price is determined by the intersection of market demand and market supply; individual firms do not have any influence on the market price in perfect competition. Once the market price has been determined by market supply and demand forces, individual firms become price takers. Individual firms are forced to charge the equilibrium price of the market or consumers will purchase the product from the numerous other firms in the market charging a lower price. The demand curve for an individual firm is thus equal to the equilibrium price of the market.
Q.5. Why do firms earn only normal profits under perfect competition in the long-run?
Ans. The long-run is a period of time which is sufficiently long to allow the firms to make changes in all factors of production. In the long-run, all factors are variable and none fixed. The firms, in the long-run, can increase their output by changing their capital equipment; they may expand their old plants or replace sold lower-capacity plants by the new higher-capacity int or add new plants.
Besides, in the long-run, new firms can enter the industry to compete the existing firms. On the contrary, in the long-run, the firms can contract their output level by reducing their capital equipment; they may allow a part of the existing capital equipment to wear out without replacement or sell out a part of the capital equipment.
Moreover, the firms can leave the industry in the long-run. The long-run equilibrium then refers to the situation when free and full adjustment in the capital equipment as well as in the number of firms has been allowed to take place. It is therefore long-run average and marginal cost curve which are relevant for deciding about equilibrium output in the long-run. Moreover, in the long-run, it is the average total cost which is of determining importance, since all costs are variable and nond fixed.
Q.6. “Under perfect competition, firm is a price-taker and not price-maker.” Explain.
Ans. In perfect market conditions a firm is a price-taker because other firms can enter the market easily and produce a product that is indistinguishable from every other firm’s product. This makes it impossible for any firm to set its own prices.
A price-taker is a firm that cannot have any say in setting its own prices. A price taker simply has to accept the market price. This is in contrast to a price-maker, which can have an influence over the price at which it sells its goods.
In perfect competition, there are two main reasons why a firm cannot get away with setting its prices above the market price. First, there is no difference between its product and that of every other firm in the market. Therefore, no one will pay extra for a firm’s product the way that they might pay extra for something like Nike shoes. Second, if a firm were to succeed in a higher price, more firms would enter the attracted by the higher profits that were available would increase supply and drive down the price firm’s product.
In perfect competition, firms sell homogeneous products and it is easy for a firm to enter the market. These two factors make it impossible for firms to their prices above the market price. This makes into price-takers.
A Perfectly Competitive Market is one in the number of sellers is large and all of these producing homogeneous goods, and there is no competition. A price is set by the industry and each acts as a price-taker, this happens because all final producing homogeneous goods due to which they set different prices, because if a firm sets different the consumer will shift towards another firm.
Q.7. Under perfect competition, all the sell their goods at the same price.
Ans. False.
INTEXT QUESTIONS 21.3.
Q.1. What is monopoly? Explain its features.
Ans. Monopoly is a market structure in which there is a single seller, there are no close substitutes for the commodity produced by the firm and there are barriers to entry.
Example: Indian Railways which is operated under government of India.
Monopoly also implies absence of competition.
Features of Monopoly: Monopoly is characterized by:
1. Single Seller: In monopoly, there is only one firm producing the product. The whole industry consists of this single firm. Thus, under monopoly, there is no distinction between firm and industry. Being the only firm, there is significant control of the firm over supply and price. Thus under monopoly, buyers do not have the option of buying the commodity from any other seller. They have to buy the product from the firm or they can go without the commodity. This fact gives immense control to the monopolist over the market.
2. No Close Substitute: There are no close substitutes of the product produced by the monopolist firm. If there are close substitutes of the product in the market, it implies presence of more than one firm and hence no monopoly. In order to ensure a total of control over the market by the monopolist firm, it is assumed that there are no close substitutes of the product.
3. No to Entry: Monopoly can only exist when there is strong barriers before a new firm to enter the market. In fact once a monopoly firm starts producing the product, no other firm can produce the same. One reason for this is the ability of the monopolist to produce the product at a lower cost than any new firm who thinks to enter the market. If a new firm who knows that it cannot produce at a lower cost than the monopolist, then the that firm will never enter the market for fear of loosing out in competition. Similarly the monopolist who is operating for a long time may be enjoying reputation among its customers and is in a better position to use the situation in its own benefit. A new firm has to take long time to achieve this and so may not be interested to enter the market.
4. Price Maker: Being the single seller of the product, the monopolist has full control over the pricing of the product. On the other hand, if there is a large number of buyers in the market, so no single buyer exercises any significant influence over price determination. Thus, it is a seller’s market. So monopoly firm is a price maker.
5. Price Discrimination: Having considerable control over the market on account of being single seller with no entry of other firms, the monopolist can exercise policy of price discrimination, it means that the monopolist can sell different quantities of the same product to a consumer at different price or same quantity to different consumers at different prices by adjudging the standard of living of the consumer.
Q.2. Draw a comparison between perfect competition and monopoly.
Ans. 1. Output and Price: Under perfect competition price is equal to marginal cost at the equilibrium output. While under monopoly, the price is greater than average cost.
2. Equilibrium: Under perfect competition equilibrium is possible only when MR = MC and MC cuts the MR curve from below. But under simple monopoly, equilibrium can be realized whether marginal cost is rising, constant or falling.
3. Entry: Under perfect competition, there exist no restrictions on the entry or exit of firms into the industry. Under simple monopoly, there are strong barriers on the entry and exit of firms.
4. Discrimination: Under simple monopoly, a monopolist can charge different prices from the different groups of buyers. But, in the perfectly competitive market, it is absent by definition.
5. Profits: The difference between price and marginal cost under monopoly results in super-normal profits to the monopolist. Under perfect competition, a firm in the-long run enjoys only normal profits.
6. Supply Curve of Firm: Under perfect competition, supply curve can be known. It is so because all firms can sell desired quantity at the prevailing price. Moreover, there is no price discrimination. Under monopoly, supply curve cannot be known. MC curve is not the supply curve of the monopolist.
Q.3. In what forms, can there be barriers to entry of other firms? What role do these barriers play?
Ans. In theories of competition in economics, barriers to entry are obstacles that make it difficult to enter a given market. The term can refer to hindrances a firm faces in trying to enter a market or industry-such as government regulation and patents, or a large, established firm taking advantage of economies of scale-or those an individual faces in trying to gain entrance to a profession-such as education or licensing requirements.
Because barriers to entry protect incumbent firms and restrict competition in a market, they can contribute to distortionary prices. The existence of monopolies or market power is often aided by barriers to entry.
Q.4. Why do we assume that there are no close substitutes of the goods produced by a monopolist?
Ans. A monopoly is a structure in which a single supplier produces and sells a given product. If there is a single seller in a certain industry and there are not any close substitutes for the product, then the market structure is that of a “pure monopoly”. Sometimes, there are many sellers in an industry and/or there exist many close substitutes for the goods being produced, but nevertheless companies retain some market power. This is termed monopolistic competition, whereas in oligopoly the companies interact strategically.
In general, the main results from this theory compare price-fixing methods across market structures, analyze the effect of a certain structure on welfare, and vary technological/ demand assumptions in order to assess the consequences for an abstract model of society. Most economic textbooks follow the practice of carefully explaining the perfect competition model, mainly because of its usefulness to understand “departures” from it (the so-called imperfect competition models).
The boundaries of what constitutes a market and what doesn’t are relevant distinctions to make in economic analysis. In a general equilibrium context, a good is a specific concept entangling geographical and time-related characteristics. Most studies of market structure relax a little their definition of a good, allowing for more flexibility at the identification of substitute-goods.
Therefore, one can find an economic analysis of the market of grapes in Russia, for example, which is not a market in the strict sense of general equilibrium theory monopoly.
Q.5. What kinds of profits are earned by a monopolist in the long run and why?
Ans. In economics a monopoly is a firm that lacks any viable competition, and is the sole producer of the industry’s product. In a normal competitive situation, no firm can charge a price that is significantly higher then the Marginal (Economic) cost of producing (the last unit of) the product. If any firm doing business within a competitive situation tries to raise prices significantly higher than the Marginal cost of producing the product, it will lose all of its customers to either other existing firms that charge lower prices, or to a new firm that will find it profitable to use a lower price (closer to its marginal cost) to take customers away from the firm charging the higher price. But since the monopoly firm does not have to worry about losing customers to competitors, it can set a monopoly price that is significantly higher than its marginal cost, allowing it to have an economic profit that is significantly higher than the normal profit that is typically found in a perfectly competitive industry. The high economic profit obtained by a monopoly firm is referred to as monopoly profit. The existence of a monopoly, and therefore the existence of a monopoly price and monopoly profit, depend on the existence of barriers to entry: These stop other firms from entering into the industry and sapping away profits.
Q.6. Define price discrimination.
Ans. Price discrimination is a pricing strategy where identical or largely similar goods or services are transacted at different prices by the same provider in different markets. Price differentiation is distinguished from product differentiation by the more substantial difference in production cost for the differently priced products involved in the latter strategy. Price differentiation essentially relies on the variation in the customers’ willingness to pay.
The term differential pricing is also used to describe the practice of charging different prices to different buyers for the same quality and quantity of a product, but it can also refer to a combination of price differentiation and product differentiation. Other terms used to refer to price discrimination include equity pricing, preferential pricing, and tiered pricing.
Q.7. Under monopoly, firm is a price taker.
Ans. True.
INTEXT QUESTIONS 21.4.
Q.1. Define monopolistic competition. Explain its features.
Ans. Monopolistic Competition is a market structure in which there is a large number of sellers in the market of a commodity, but the product of each seller differs in some respect from the product of the other sellers. Thus, product differentiation is the corner stone of Monopolistic Competition. Monopolistic competition is like an amalgam of monopoly and perfect competition, and hence the name Monopolistic Competition. According to J.S. Bains, “Monopolistic Competition is a market structure where there is a large number of sellers, selling differentiated but close substitute products.”
Example: Restaurants, Market for Toothpaste etc.
Features of Monopolistic Competition
Monopolistic Competition is characterized by:
1. Large number of firms: Under monopolistic competition, there is a large number of firms selling closely related products. Thus the control of a particular firm is somewhat diminished when compared to that of monopoly.
2. Product Differentiation: Product Differentiation is a very important feature of Monopolistic Competition. This differentiation could be on the basis of quality, packaging, colour etc. or this differentiation could also be just a matter of perception.
For example: You must have seen different brands of tooth paste. Even if they look different having different taste, the product it has same use.
3. Selling Costs: Under monopolistic competition firms spend a lot on advertisement of their product in order to attract the customers and sell their product. Every firm tries to promote its product through advertisement for which it bears some extra cost over and above its cost of production. This is called selling cost.
4. Non-Price Competition: Under Monopolistic Competition, sometimes, fims compete with each other without changing price. They may start various promotion schemes, gift schemes or compete in terms of advertisement eta Thus, firms compete under in every possible way to attract consumers and gain maximum possible market share.
Q.2. Draw comparison between perfect competition and Monopolistic competition.
Ans. One key difference between these two sets of economic circumstances is efficiency. A perfectly competitive market is perfectly efficient. This means that the price is Pareto optimal, which means that any shift in the price would benefit one party at ‘the expense of the other. The overall economic surplus, which is the sum of the producer and consumer surpluses, is maximized. The suppliers cannot influence the price of the good or service in question; the market dictates the price. The price of the good or service in a perfectly competitive market is equal to the marginal costs of manufacturing that good or service.
In a monopolistically competitive market the price is higher than the marginal cost of producing the good or service and the suppliers can influence the price, granting them market power. This decreases the consumer surplus, and by extension the market’s economic surplus, and creates deadweight loss.
Another key difference between the two is product differentiation. In a perfectly competitive market products are perfect substitutes for each other. But in monopolistically competitive markets the products are highly differentiated. In fact, firms work hard to emphasize the non-price related differences between their products and their competitors.
A final difference involves barriers to entry and exit. Perfectly competitive markets have no barriers to entry and exit; a firm can freely enter or leave an industry based on its perception of the market’s profitability. In a monopolistic competitive market there are few barriers to entry and exit, but still more than in a perfectly competitive market.
Q.3. Draw comparison between monopoly and monopolistic competition.
Ans. Monopoly and Monopolistic competition describe market situations, which are quite distinct to each other in terms of the level of competition, level of market power, types of products sold and pricing structure. Monopoly and Monopolistic competition are similar competition are to each other in that a large number of buyers have only a few numbers of sellers who have better control over market dynamics.
Monopoly and Monopolistic competition are similar because each market structure has a large number of buyers and one or a very few number of sellers. However, monopolistic markets have few barriers to entry for new firms, whereas monopoly markets have high entry barriers because the market is controlled by one large company.
Q.4. Explain product differentiation under monopolistic competition.
Ans. There are three ways in which you can differentiate your product: by style or type ; by location; and by quality.
If you decide to copy Starbucks both in style (for example, you copy the decor of the shop and the service) and in quality (for example, you serve coffee made from the same coffee beans, brewed in exactly the same way), you will still most likely differentiate your product by location: your coffee shop will be closer for some people than any of the other shops, and that gives you some degree of market power.
PY But you could further differentiate your product by style (for example, you could serve coffee in porcelain cups brought to the table by waiters) or by quality (for example, you could serve only organic shade-grown coffee). All these will help you create a differentiated product that gives you more market power-that is, the power to raise prices. You would, of course, need to determine whether it allows you to raise prices sufficiently to cover the cost of paying for waiters and higher-quality coffee.
Q.5. Monopolistic competition is an amalgam of monopoly and perfect competition. Explain.
Ans. Monopoly and perfect competition mark the two extremes of market structures, but there are some similarities between firms in a perfectly competitive market and monopoly firms. Both face the same cost and production functions and both seek to maximize profit. The shutdown decisions are the same, and both are assumed to have perfectly competitive factors markets.
However, there are several key distinctions. In a perfectly competitive market, price equals marginal cost and firms earn an economic profit of zero. In a monopoly, the price is set above marginal cost and the firm earns a positive economic profit. Perfect competition produces an equilibrium in which the price and quantity of a good is economically efficient. Monopolies produce an equilibrium at which the price of a good is higher, and the quantity lower, than is economically efficient. For this reason, governments often seek to regulate monopolies and encourage increased competition.
Q.6. Explain ‘Non-price Competition’.
Ans. Non-price competition is a marketing strategy in which one firm tries to distinguish its product or service from competing products on the basis of attributes like design and workmanship. The firm can also distinguish its product offering through quality of service, extensive distribution, customer focus, or any sustainable competitive advantage other than price. It can be contrasted with price competition, which is where a company tries to distinguish its product or service from competing products on the basis of low price. Non-price competition typically involves promotional expenditures (such as advertising, selling staff, the locations convenience, sales promotions, coupons, special orders, or free gifts), marketing research, new product development, and brand management costs.
Firms will engage in non-price competition, in spite of the additional costs involved, because it is usually more profitable than selling for a lower price; and avoids the risk of a price war. Although any company can use a non-price competition strategy, it is most common among oligopolies and monopolistic competition, because firms can be extremely competitive. Businesses can also decide to compete against each other in the form of non-price competition such as advertising and product development. Oligopolistic business normally do not engage in price competition as this usually leads to a decrease in the profit business can make is specific market.
Q.7. Fill in the blanks with appropriate words:
(i) Under monopolistic competition, the number of firms is __________.
Ans. Large.
(ii) Demand curve under monopolistic competition is __________ sloping.
Ans. Downward.
(iii) Product differentiation is the cornerstone of ___________.
Ans. Monopolistic competition.
INTEXT QUESTIONS 21.5.
Q.1. What is oligopoly? Explain its features.
Ans. Oligopoly is an important form of imperfect competition. Oligopoly exists when there are few firms selling the product. W.H. Fellner wrote a book on oligopoly with the title, “Competition among the Few”. This title aptly summarizes what oligopoly is. Oligopoly can simply be defined as the competition among the few firms. The products of these firms may either be close substitutes or homogeneous.
Example: Mobile service providers, car industry, airlines etc.
A. Features of Oligopoly: Oligopoly is characterized by following features:
1. Interdependence: Interdependence is a very significant feature of Oligopoly. When the number of firms is small, any strategy regarding change in price, output or quality of a product, will depend on the rival’s reaction for its success. Thus, the success of price reduction policy by one company (say, Pepsi) will depend on reaction by its rival (say, Coke). For example, if Pepsi lowers the price per bottle from Rs. 10 to Rs. 8, the effect of this step on demand for Pepsi will depend on the counter-strategy of Coke. If Coke decides to follow price war strategy and lowers price from Rs. 10 per bottle to Rs.7 per bottle, demand for Pepsi may decrease even below its initial level.
2. Indeterminate Demand Curve: Demand curve presents different quantities of a product demanded at various prices. However, demand for a product at different prices can be known only when rivals’ counter strategies can be predicted with certainty. This being not possible, we cannot draw the usual demand curve for the firm’s product in case of oligopoly.
3. Selling Costs: Oligopoly firms bear selling cost such as advertisement, sales promotion etc. to sale the product.
4. Group Behaviour: Since there are a few firms under oligopoly, there is a tendency among them to come together in order to avoid competition. They may meet secretly to negotiate price and quantity in the market. The aim is to maximise profit in the same manner as a monopolist does. Obviously when they come together it looks as if all firms have become a single entity like a monopolist. But such groupism is done secretly as the government may take action if it comes to know about this type of group behaviours of firm where in firms are trying to reduce competition among them selves. Note that when firms form a group secretly to share profit or quantity etc. it is called collusive oligopoly. When firms work independently and compete with each other, it is called non-collusive oligopoly.
5. Price Rigidity: In oligopoly market, once the price of the product is fixed by the firms, it is normally not changeable. So price is rigid. The reasons for this is that firms face different types of consumers having different elasticities of demand. So response of change in quantity due to change in price may vary from one firm to another creating uncertainty about future sales. So fearing this firms do not change price once its is fixed.
Q.2. Define oligopoly. Give example.
Ans. An oligopoly is a market where only a few firms make up the entire industry. These firms have all the control over important factors like price. Often, the products of all the dominating firms are extremely alike, which forces the firms to become interdependent and closely monitor the actions of the other firms they are competing against.
This type of market also creates barriers to enter the industry for outside competition. It is often quite difficult for other firms to enter into the market because of barriers like patents and government restrictions.
Q.3. Explain nature of demand curve under oligopoly.
Ans. The demand curve facing an oligopolist, according to the kinked demand curve hypothesis, has a ‘kink’ at the level of the prevailing price. The kink is formed at the prevailing price level because the segment of the demand curve above the prevailing price level is highly elastic and the segment of the demand curve below the prevailing price level is inelastic.
A linked demand curved D with a kink at point K. The prevailing price level is OP and the firm is producing and selling the output OM. Now, the upper segment dK of the demand curve dD is relatively elastic and the lower segment KD is relatively inelastic. This difference in elasticities is due to the particular competitive reaction pattern assumed by the kinked demand curve hypothesis.
Q.4. Interdependence’ and ‘Group Behaviour’ are two very important features of oligopoly. Comment.
Ans. 1. Interdependence: The most important feature of oligopoly is the interdependence in decision-making of the few firms which comprise the industry. This is because when the number of competitors is few, any change in price, output, product etc. by a firm will have a direct effect on the fortune of its rivals, which will then retaliate in changing their own prices, output or products as the case may be.
It is, therefore, clear that the oligopolistic firm must consider not only the market demand for the industry’s product but also the reactions of the other firms in the industry to any action or decision it may take. Since more than one reaction-pattern is possible from the other firms, we have to make some assumptions about the reaction of the others before we can provide a definite and determinate solution of price-output fixation under oligopoly.
2. Group Behaviour: Further, another important feature of oligopoly is that for the proper solution to the problem of determination of price and output under, it analysis of group behaviour is important. Theories of perfect competition, monopoly and monopolistic competition present no difficult, problem of making suitable assumption about human behaviour.
In cases of perfect competition and monopolistic competition (with a large number of firms), the economists assume that the business firms behave in such a way as to maximise their profits. Assumption of profit maximisation gives overall good results in these situations where mass of people are involved and there is no interdependence of firms. On the other end, the theory of monopoly deals with a sole individual and it is also appropriate to assume profit-maximising behaviour on his part.
But the theory of oligopoly is a theory of group behaviour not of mass or individual behaviour and to assume profit-maximising behaviour on the part of a producer of a group may not be very valid. There are few firms in a group which are very much interdependent.
Given the present state of our economic and social science, there is no generally accepted theory of group behaviour. Do the members of a group agree to pull together in promotion of common interests or will they fight to promote their individual interests? Does the group possess any leader? If so, how does he get the others to follow him? These are some of the questions that need to be answered by the theory of group behaviour.
Q.5. What is collusive oligopoly?
Ans. The firms under oligopoly may decide to cooperate with each other and make common policies for all the firms. Thus, firms may collude with each other work on common pricing policies and make common output decisions. In such an environment, the group of firms can behave like a monopolist and earn supernormal profits. This group of colluding firms is called ‘cartel’. One prominent example of cartel is ‘the Organization of Petroleum Exporting Countries (PEC)’.
Q.6. What is non-collusive oligopoly?
Ans. Non-collusive oligopoly: When firms do not cooperate with each other and engage in fierce competition with each other, the market is called non-collusive oligopoly. Under such environment, while competing with each other, firms drive price levels, and profit levels down to the level of normal profit only.
TERMINAL EXERCISE
Q.1. Define market. What are different types of market?
Ans. Market is the heart and soul of modern economic life. Without market, producers’ and consumers’ activities hardly make any sense. In common parlance, market is assumed to be a place where goods are bought and sold. But in economics, the term ‘market’ does not refer to a specific place. Rather, it is a mechanism through which buyers and sellers come into contact with each other and buy and/ or sell goods at mutually agreed prices.
Different types of market:
1. Buyers and Sellers: Buyers and sellers must come into contact with each other for a market to exist. It is only after the contact between the buyer and the seller, that a transaction takes place.
2. Area: You can easily find a market place nearer to a human settlement. But in today’s world, the market is not limited to a particular place. Today, in the age of Internet, we have a rapidly growing online market which is not limited to any geographical area. A buyer can place order to buy a good online. So modern Market exists physically and virtually.
3. Commodity: The transaction between buyer and seller has to be over some good or service. So a commodity becomes the integral part of a market.
4. Different forms of Competition: Forms of market depends on the degree competition among the sellers selling the goods, where the degree of competition it self is determined by the inter relationship of among the goods and services sold by different sellers as well on number of sellers present in the market.
5. Money transaction: Money is the mediums of exchange in the modern day world. Consumers pay money to the seller to buy goods as services in the market. So money and market are inseparable.
