Cross Price Elasticity

of Demand
CONTINUATION…..
IMPERFECT COMPETITION

 In other markets, one or more of the assumptions of perfect competition will

not be met; thus, the market becomes imperfectly competitive.

 We shall discuss the different types of imperfectly competitive market, which

are monopoly, monopolistic competition, and oligopoly.
Monopoly

 A monopoly exists when a single firm that sells in that market has no close
substitutes.

 The existence of a monopoly depends on how easy it is for consumers to

substitute the products for those of other sellers

 Consumers tend to have a bad image of a monopoly. They fear that

monopolies tend to jack up prices of their goods since consumers have no
choice and cannot buy the good from any other seller. Because of the absence
of competition, there is also the danger that consumers will suffer from poor
quality of the good and poor service delivered by the monopolist.
Monopoly can exist for the following reasons:

 A single seller has control of entire supply of raw materials.

 Ownership of patent or copyright is invested in a single seller.
 The producer will enjoy economies of scale, which are savings from a large
range of outputs.
 Grant of a government franchise to a single firm.
 While a monopoly enjoys a lot of power in the market, it actually does not
have unlimited market power because it faces indirect competition for
consumers’ money for all goods.

 Monopolist’s quantity of output will be lower to enable him to set the price
higher. Because of this, to prevent abuses, there is need for stricter
government laws.
 A monopoly can easily exist when there are barriers to entry that may cause
other firm to stay out of the market instead of entering and competing with
firms already there. The reason could be due to legal barriers like government
restrictions, patents, and copyrights.

 Because it is the only supplier in the market, the firm is free to determine its
output level and its price. Once the firm determines its output level, it also
determines its price; it is thus a price setter. Once the firm determines its
price, it also determines its output level that will enable it to maximize its
profits.
 The monopolist faces a downward-sloping demand curve; meaning, the lower
the price, the higher the quantity that will be bought by the consumer.

Monopolistic Competition

 One imperfectly competitive market is monopolistic competition wherein

products are differentiated and entry and exit are easy.

 As consumers, we love it when we have a wide variety of goods to choose

from. An expensive gadget that has all the latest features is preferred to an
ordinary one with very simple applications.
 When we shop for clothes, we look for those that are different and not mass-
produced, lest we wear exactly the same shirt as other people.

 Monopolistic competition allows such variety of choices. Since many firms

exist in the market, consumers also have the freedom to choose from whom to
buy the good.
 A successful executive, who is shopping for a car; may choose to buy from
Toyota, Honda, Mercedes- Benz, or Volkswagen. If he wants a Toyota car, he
has a variety of choices such as Wigo, Vios, Altis, Innova, and Fortuner. We
can differentiate one car from the other not only by brand name but also by
the model, the style, and the additional convenience.
 A successful executive, who is shopping for a car; may choose to buy from
Toyota, Honda, Mercedes-Benz, or Volkswagen. If he wants Toyota car, he
has a ‘variety of choices such as Wigo,
Vios, Altis, Innova, and Fortuner.

 We can differentiate one car from the other not only by brand name but also
by the model, the style, and the additional convenience.
This market combines some characteristics of perfect competition and
monopoly. Its key characteristics are:
 
 a blend of competition and monopoly;
 firms sell differentiated products, which are highly substitutable but are not
perfect substitutes
 many sellers offer heterogeneous or differentiated products, similar but not
identical and satisfy the same basic need;
 changes in product characteristics to increase appeal using brand, flavor,
consistency, and packaging as means to attract customers;

 there is free entry and exit in the market that enables the existence of many
sellers; and

 it is similar to a monopoly in that the firm can determine characteristics of

product and has some control over price and quantity.
 
The firm under monopolistic competition faces a downward-sloping demand
curve. This means that it can sell more by charging less and can raise price
without losing all customers. As such, the firms in this market are given room to
set different prices by their product differences. In other words, a firm can set a
higher price because it has something different to offer its buyers .
The firm tends therefore to engage in non-price competition. This refers to any
action a firm takes to shift the demand curve for its output to the right without
having to sacrifice its prices. This may include better service, product guarantees
free home delivery, more attractive packaging, better locations, and advertising.
The firm can either sell more charging a lower price or it can even raise its price
without losing all of its customers because it has the capacity of developing
loyalty among its customers. Hence, firms in this market structure are price
setters. However, the demand curve faced by the firm is more elastic than the
demand curve faced by a monopolist.
Oligopoly
 
An oligopoly is a market dominated by a small number of strategically
interacting
firms. Few sellers account for most of or total production since barriers to free
make it difficult for new firms to enter.
 
Its characteristics are:
 action of each firm affects other firms; and
 interdependence among firms.
These strategically interacting firms try to raise their profits by colluding with
other to raise prices to the detriment of consumers. Just take a look at the oil
industry. Producers of oil from all around the world can manage to raise prices
by agreeing each other on what prices to charge the consumers. Thus, countries
that use a lot of oil have no choice but to buy from these producers at high
prices.
Oligopolies may exist due to the existence of barriers, which may include
economies of scale, reputation of the sellers, and strategic and legal barriers such
as the grant of patents/franchises, loyal following of customers, huge capital
investments and specialized
input, and control of supply of raw materials by a few producers.

Cooperative behavior in oligopoly usually takes the form of price-fixing or

output setting agreements such as the one maintained by the OPEC
(Organization of Petroleum Exporting Countries)
SIGNIFICANCE OF THE MARKET STRUCTURE
 
The type of market structure in which the business operates will determine the
amount of market power or control the business owner will enjoy. Greater
market power means a greater ability to control prices, differentiate the products
one offers for sale,
thus, leading to opportunities for more profits.