Explain how the equilibrium level of output is determined in
perfect competition. Both for the whole market and one firm
within the market:
The equilibrium is the point where economic forces are balanced and
there are no external influences. The equilibrium is the condition where a
market price is established through competition such that the amount of
goods or services sought by buyers is equal to the amount of goods or
services produced by sellers.
Perfect competition describes a market in which no buyer or seller has
market power. Such markets are usually allocatively and productively
efficient. In general a perfectly competitive market is characterized by
the fact that no single firm has influence on the price of the product it sells.
A perfectly competitive market has many distinguishing factors. A market
in perfect competition has many people who are willing and able to buy a
product as well as a many buyers who are willing and able to produce the
products. The products the firms supply are exactly the same. Another
distinguishing characteristic in a perfectly competitive market is that
there are low entry and exit barriers to the market, and it is relatively
easy for a firm to enter or exit the market. There is also perfect
information for the consumers and producers. Most importantly, in a
perfectly competitive market, the firms aim to maximize profits; firms
aim to sell where marginal costs meet marginal revenue, where they
generate the most profit.
Following on from above, an important idea from which equilibrium output
is determined in perfect competition is that the firm’s main aims are to
maximize profits. So, price taking from the firms guarantees, that when the
firms maximize profits, by choosing the quantity they wish to produce and
the combination of factors of production to produce it with, the market
price will be equal to marginal cost. The price = marginal revenue = average
revenue– The demand curve is horizontal. So as the firms they have the
choice of how much they supply, but no firm has more influence on the
equilibrium than any other firm. In the short run the equilibrium market
price is determined by the interaction between market demand and market
supply. The long run equilibrium for a perfectly competitive market occurs
when the marginal firm makes normal profit only in the long t e r m .
In the long run equilibrium, the business will be operating at the
minimum point on both long - run and short - run average cost curves
obtaining full economy of scale. As firms grow larger it is possible for
them to reduce their cost of production and it is shown as the declining
pert of LRAC.
.
Firms in a perfectly competitive market are able to make abnormal
profits, however not for a sustained or great deal of time as there are
no, or limited barriers to entry in a perfectly completive market thus
other firms see that there are abnormal profits to be made and enter
the market producing exactly the same product. This eventually puts an
end to abnormal profits being made Perfect competition describes a
market structure whose assumptions are extremely strong and highly
unlikely to exist in most real -time and real-world markets. The reality is
that most markets are imperfectly competitive.
Discuss the view that developments in information technology such as the
internet made markets more competitive?
Developments in information technology have without doubt made
markets more competitive (although not in all sectors). The arrival of the
internet has removed many barriers to entry. As, vitally, there is very little
start up costs in starting an online business. There is no need to
purchase, rent or lease premises, employ several members of staff, pay
electricity, gas, water etc bills. In some cases, there is not even a need for
the online firms to purchase and store or keep stock, which eliminates a
great deal of risk – this leads into another concept in which the
developments in information technology and the internet have made
easier, which is arbitrage. Arbitrage is the making of a gain through
trading without committing any money and without taking a risk of
losing money. Arbitrage is not simply the act of buying a product in one
market and selling it in another for a higher price at some later time. The
transactions must occur simultaneously to avoid exposure to market risk.
So to look at it in the perspective of a potential online business, there is
no need to spend money on land utilities and labor and there is a
possible chance of the business not even having to risk buying stock
before it’s sold. It actually attracts businesses to the market. This could
mean that online firms are able to make more profits and sell the
product cheaper than those in actual shops.
Developments in information technology have moved markets closer
towards perfect information. Perfect information of prices of goods
(such as price comparison websites), technology, products and
consumer feedback. The introduction of price comparison websites has
made the market hugely more competitive. It is now exceptionally
simple to obtain the cheapest and highest prices of any good or service
you want. This now means businesses have no choice but to compete
and lower prices if they are to stay in business. The internet has also
brought about consumer feedback which is very easy to find for pretty
much any product. Before the internet it wasn’t easy to find reviews and
feedback on products, so there was a lack of information which also
gave scope and benefitted businesses as if there was a disadvantage in
their product and, or another product was better it was difficult to find
out. The internet has made feedback extremely easy to find on most
products which means any mistakes in products and services are
highlighted and alternatives are recommended. This means the firms
have to keep up to date and constantly maintain their product to keep
themselves in business.
The online market has significantly reduced or even removed
transaction costs. For instance if you were buying a banana from a store;
to purchase the banana, your costs will be not only the price of the
banana itself, but also the energy and effort it requires to find out which
of the various banana products you prefer, where to get them and at
what price, the cost of traveling from your house to the store and back,
the time waiting in line, and the effort of the paying itself; the costs
above and beyond the cost of the banana are the transaction costs. An
online business has no or significantly less transaction costs. This had
made markets a lot more competitive as online firms are able to provide
their products cheaper than they are in shops. Developments have also
introduced new kinds of retailers, like Amazon who have different
business structures.
However, the internet has also put great strain and eroded some
markets. Businesses such as Antique shops have been put out of
business due to the internet and internet auction sites such as eBay.
People are able to sell their antiques from the comfort of their own and
homes and perhaps even make more money selling online as opposed
to taking it to their antiques dealers (this leads in with transaction
costs). The most notable change in an industry is the music industry. The
music industry has seen a huge slump with the development of the
internet and the introduction of music downloads which has had a
severe affect on shops and the artists themselves, as a lot of
downloading is done illegally, which is free. So the internet has
effectively allowed us obtain (although illegally) a product which a
consumer would pay £10-£15, for free, very easily. However music
listening has increased globally due to the internet.