Market structures and price determination

UNIT IIIUNIT IIIPART-IPART-I

INTRODUCTION TO INTRODUCTION TO MARKET STRUCTURES MARKET STRUCTURES

AND AND PRICING POLICIESPRICING POLICIES

What is a Market?Market is defined as a place or point

at which buyers and sellers negotiate their exchange of well-defined products or services.

Market is a place where buyer and seller meet, goods and services are offered for the sale and transfer of ownership occurs

Definition of Market

Market is any area over which buyers and sellers are in close touch with one another, either directly or through dealers, that the price obtainable in one part of the market affects the prices paid in other parts.

- Benham

COMPONENTS AND MARKET STRUCTURE

As seen from the definition of market, the components of a market are:1. Sellers (Producer)2. Buyers (Customers)3. Nature of product (Types of

Product)4. Conditions of entry and exit5. Negotiation (Price)6. Transfer of Ownership and Product7. Transfer of Money or Equal Value

COMPETITIVE BASED MARKET STRUCTURE

The less the power an individual firm has to influence the market in which it operates, the more competitive that market is.

Types of CompetitionI. Perfect Competition MarketsII. Imperfect Competition

Markets

Market Structures Based on Competition

PERFECT COMPETITION MARKET

A market structure in which all firms in an industry are price takers and in which there is freedom of entry into and exit from the industry is called Perfect Competition.

FEATURES OF PERFECT COMPETITON MARKET• A Large Number of Buyers and Sellers• Price Taker (market price)• Homogeneous Products (same product)• The firms are Free to Entry or Exit• No Individual Preferences (buyer/seller)• Each buyer and seller operates under the

conditions of certainty• Mobility of Factors of Production – move

freely from industry to industry and firm to firm

IMPERFECT COMPETITION

1. Monopoly Market 2. Monopolistic Market3. Duopoly Market4. Oligopoly Market5. Monopsony Market6. Duopsony Market7. Oligopsony Market

MONOPOLYA pure monopoly exists if one and only

one firm produces and sells a particular commodity in the market.

The single firm producing the product is itself both the firm and the industry.

E.g.: Railways, Nokia, DOT, APSRTC

FEATURES OF MONOPOLY COMPETITIVE MARKET

• Only one firm sells the commodity having no rivals or direct competition

• Price Maker• Indirect rivalry may exist in the form

of Existence of substitute products• No other seller can enter the market,

else monopoly would cease to exist.• The product is distinct i.e., inelastic

demand

CAUSES OF MONOPOLY Patent Rights give legal monopoly Govt. policies such as granting licenses Ownership and control of some strategic

raw materials. Exclusive knowledge of technology by the

firm. Size of the market may accommodate only

a single firm Limit pricing policy adopted to prevent new

entrants.

“which represents a more realistic picture of the actual market structure and the nature of competition which is existing right now in the market”

MONOPOLISTIC COMPETITION

Monopolistic Competition refers to a situation where there are many sellers of a differentiated product.

There is competition which is not perfect, between many firms making very similar products which are close but not perfect substitutes.

Monopolistic market exhibits characteristic of both perfect competition and monopoly

FEATURES OF MONOPOLISTIC COMPETITION

1. Large number of sellers/producers2. Large number of buyers3. Product Differentiation (Tooth paste)4. Higher selling cost (Promotion cost) 5. Imperfect knowledge (Buyers)6. Freedom of entry and exist 7. Higher elasticity of demand. (Price

sensitivity market)

DUOPOLYIf there are two sellers, duopoly is said to exist.

OLIGOPOLY

If there is a competition among a few sellers, oligopoly is said to exist

MONOPSONYIf there is only one buyer,

monopsony market is said to exist.

DUOPSONYIf there are two buyers, duopsony

is said to exist.

OLIGOPSONYIf there are few buyers,

oligopsony is said to exist.

S.NO. TYPES OF MARKETS

SIZE OF SELLERS

SIZE OF BUYERS

EXAMPLES

1 Monopoly Single Seller

Large Buyers

Ex: Indian Railways, DRDO

2 Duopoly Two Sellers

Large Buyers

Ex: Soft drinks: Pepsi & Coke

3 Oligopoly Few Sellers

Large Buyers

Ex: LPG Gas, Cement Market,

Pizza Market4 Monopsony Large

SellersSingle Buyer

Ex: Government Contractors

5 Duopsony Large Sellers

Two Buyers

Ex: Petrol Buyers in India: HPCL

and BPCL6 Oligopsony Large

SellersFew

BuyersEx.: International

Airways

TR, AR and MR

Total Revenue is the revenue earned by producing and selling ‘n’ units TR = P * Q

Average Revenue is the revenue earned per unit sold AR = TR / Q

Marginal Revenue is the change in revenue by producing and selling one more unit MR = P

PRICE SUPPLY EQUILIBRIUM

Very Short Period Equilibrium Short run Equilibrium Long run Equilibrium

EQUILIBRIUM POINT

Equilibrium point refers to the position where the firm enjoys maximum profits and it has no incentive either to reduce or increase its output level.

EQUILIBRIUM POINT – PERFECT COMPETITION

MR = MC MC curve should cut the MR curve from

below

EQUILIBRIUM POINT – PERFECT COMPETITION (SHORT RUN)

SHORT RUN SUPPLY CURVE

AR = MR

PRICE OUTPUT DETERMINATION IN CASE OF LONG RUN UNDER

PERFECT COMPETITION

MR AND AR IN MONOPOLY

EQUILIBRIUM POINT – MONOPOLY

MR = MC MC curve should cut the MR curve from

below

PRICE OUTPUT DETERMINATION UNDER MONOPOLY

IS MONOLPOLY SOCIALLY DESIRABLE?

NO, the reasons are: Restrict the output Exploitation of consumers Wide gap between rich and

poor Unfair trade practices Restricted scope to R&D

EQUILIBRIUM POINT – MONOPOLISTIC

MR = MCMC curve should cut the MR curve from

belowAR = AC

PRICE OUTPUT DETERMINATION UNDER MONOPOLISTIC

PRICE DISCRIMINATION

When a firm sells its products to its customers of different profile at different prices with no corresponding change in cost, price discrimination is said to exist.

1. Purchasing power2. Quantity bought3. Customers from different market

conditions

ADVANTAGES OF PRICE DISCRIMINATION

• Helps to meet the competition• Surplus production can be disposed off• Customer base increases• Production costs decreases as volume

increases• Long run profits

PRICING

There are no cut and dried rules for pricing, since each firm, product and market situation have some features that are unique.

Under pricing will result in losses and over pricing will make the customers run away.

PRICING OBJECTIVES

• Maximize profits• Increase sales• Increase market share• Satisfy customers• Meet the competition

PRICING METHODS Cost Based Pricing Methods

Cost plus pricing Marginal cost pricing

Competition Oriented Pricing Sealed bid pricing Going rate pricing

Demand Oriented Pricing Price Discrimination Perceived value pricing

PRICING METHODS Strategy Based Pricing Methods

Market Skimming Market Penetration Two part pricing Block pricing Commodity Bundling Peak load pricing Cross Subsidisation Transfer pricing

PRICING STRATEGIES IN THE CASE OF STIFF PRICE

COMPETITION

Price Matching Promoting Brand loyalty Time to time pricing Promotional pricing Target pricing