Market Structure is Important for Two Reasons

It influences firm Behavior & Profitability

It Influences Economic Performance Which Markets Perform Well Which should be Regulated

We divide markets according to:

Number of Competitors

Barriers to Entry

Types of Products

Chapter 7 slide 1

Firms

1

Few

Many

Monopoly

Oligopoly

PerfectCompetition

Barriers to EntryHigh Medium None

PERFECT COMPETITION

Pairs of Shoes

Price

0 4 8 12 16

SupplyDemand

BASICS OF SUPPLY & DEMAND

The competitive equilibrium occursat P = $25 and Q = 8 thousand shoes.

$25

The increase (shift) in demand results ina higher price and a greater output.

7.2

Pairs of Shoes

Price

0 4 8 12 16

SupplyDemand

SUPPLY & DEMAND

$25

The fall in the marginal cost of productioncauses a favorable shift in supply and a lower price accompanied by greater output.

7.3

7.4

ACMC

Output

Revenue& Costper unit

P = $8

Each firm is a price taker (MR = P).

Firm Behavior

PERFECT COMPETITION

Each firm sets its QF such that P = MC.

P = MR = MC = ACMIN

QF

In long-run equilibrium, price is bid down until:

QF

P = $6

7.5

| | 0 200 240 280 300

Supply Curve before Entry

D

$8

$6

$4

D’

Supply Curve after Entry

Perfect Competition: Industry Outcome

The long-run result (after entry) is:

Initial Equilibrium: P = $6 & Q = 200.

After an increase in demand, theshort-run result (before entry) is:

P = $8 & Q = 240.

P = $6 & Q = 280.

7.6PRIVATE MARKET EFFICIENCY

The Argument goes back to Adam Smith’s“Invisible Hand” Metaphor.

Competitive Markets Provide the “Right” Amounts of Goods and Services that People Want and at Least Cost.

We’ll Sketch the Argument Starting with:Individual Transactions and Building up to Competitive Markets.

A DAY-CARE EXAMPLE 7.7

Parents of a Two-Year Old are Willing to Pay $8 per hour for up to 10 hours of Day Care per Week.

The Granny Down the Street will provide Care for $4 per Hour.

Can the Parties bargain to a mutually beneficial agreement? Yes

$10 -

8 -

6 -

4 -

2 -

0 | | | | | |

0 2 4 6 8 10 12

Granny’s Cost

Couple’sMaximum Value

Producer Profit $20 per Week

Consumer Surplus $20 per Week

Consumer Surplus $20 per Week

Producer Profit $40 per WeekP = $

What if a second couple is willing to pay $10 per hour?

A COMPETITIVE DAY-CARE MARKET

7.8

12 -

10 -

8 -

6 -

4 -

2 -

0 | | | | | | |

2 4 6 8 10 12 14

Regional Day-Care Demand

$2.50“Store-Bought” Day Care

Day-CareSupply

Grandmothers

QC = 9.5

All Buyers Pay Same Price.

High Valuers Obtain Day Care.

Low-Cost Firms SupplyDay Care.

The Competitive Quantityis Efficient.

MB

MC

TRADE BARRIERS & DEADWEIGHT LOSS

7.9

15 20 25

US Demand

$15

US Supply

$12.50

US Imports

World Price

under Free Trade

Deadweight loss under trade prohibitionis greater than w/ a $1.50 tariff.

US Demand

$15

US Supply

$12.50World Price

under Free Trade

$14

DWL

DWL DWL

Imports

18 22