Classification of an Industry Into a Particular Essay
- Length: 11 pages
- Sources: 15
- Subject: Economics
- Type: Essay
- Paper: #50299400
Excerpt from Essay :
classification of an industry into a particular economic market system is really necessary to understand it clearly. Without it we can not analyze the market the way it should be done. This paper discusses about the market, its types as well as it discusses about its impacts on the decision of a company involved in the market in achieving its goals. After that there is a discussion about UK super market industry and it has been analyzed that the oligopoly nature of UK super market industry is why not under the investigation of the commission of competition act and antitrust laws.
The economic market system is normally defined as a system that is self adjustable and works on its own. It needs no controlling body for current operations. Because of ongoing human activities and changing needs the economic system itself adjusts the supply according to demand and production according to consumption. This self adjustment process is flexible, automatic, and reacts to different factors and situations (Williamson, 1981).
Competition does not always increase total welfare, however, because it can create a coordination problem. There can be multiple equilibria because the two firm's innovation levels are (in most circumstances) strategic substitutes. This is due to a market share effect; the more a rival innovates the larger would be his market share and the smaller would be the share of the firm, thus reducing the incentive of the firm to innovate.
Market is defined very differently by different scholars. It can be defined as a place where buyers and sellers meet to do a transaction or exchange of any goods or services. It can be any one from the systems, institutions, procedures, social relations and infrastructure whereby parties engage in exchange. This exchange can be in Barter form (where goods are exchanged with goods) or it is some monetary exchange (where goods are exchanged through some currency notes). Most markets expect the buyers to offer the good and services (including labor) in exchange for money from buyers (Fehr, and Gachter, 2000).
Depending on the number of buyers and different other features markets can be classified into four different categories, namely:
Perfect competition can be defined as the market in which there is large number of companies selling identical products to a large population of buyers and there are no barriers to entry into the market (Lancaster, 1990). In such a market the older firms do not posses any advantage over new firms (except the experience which is not an economic actor) and buyers and sellers are very well informed about the market prices as they were established through market equilibrium. In a perfect competition the most unique thing is the identical product and there is no or very less differentiation in products of different firms.
In a perfect competition the goal of the companies is to maximize the economic profit that is total revenue minus total cost.
In perfect competition, the optimal production of the firm can be decided through marginal analysis. The profit maximization point is where the marginal revenue equals the marginal cost.
Affect of Perfect Competition on the Decisions of the Firm:
Since in perfect competition the differentiation is very low, so there is a very less room for earning any more than ordinary profit. In the short run the company needs to make two critical decisions. Firstly, they have to check whether they have to continue their production or close the production house. If their economic profit is equal to or greater than expected profit, they will continue else they have to shut down. Secondly, if they are continuing then they should know which optimal quantity to produce is. The optimal quantity is the one at which they are earning the maximum economic profit (Rubinstein, 1982).
In the long run the company has to decide whether to expand or decrease the size of their production floor. If they think there is a room to earn more economic profit to reach the optimal point then they should think about expanding the plant size. On the other hand if the quantity should be decreased to reach the optimum quantity then the plant size should be decreased. The second long-term decision the company has to made is to whether stay in the industry or not. As the definition shows in the perfect competition the entry as well as exit from the industry is very easy as one can get the full investment back if the sale of the plant take place.
While taking the number of producers, the monopolistic competition is similar to the perfect competition as there are large numbers of companies competing with each other and are free to enter or leave the market (Bulow, 1982). The difference arises due to two reasons. Firstly, there is a differentiation in the products. A differentiated product is the one that is a close substitute but can not be used as the perfect substitute for the similar products of the other companies. Secondly, since the products are differentiated so there is a difference in quality, price and marketing of the product. While differentiating the companies has to face a big trade off between the product's quality and price of the product. So that a company producing a product of high quality can charge much higher price than the company who are producing low quality products. These differences are created due to the difference in thoughts and targeting different markets with different ideas.
The goal is to maximize the economic profit. To achieve highest economic profit the goal is that they have to produce the quantity where the marginal profit will equal to the marginal cost. In perfect competition profit maximization can also be done through loss minimization.
In the short run a company in the monopolistic competition can earn economic profit but in the long run this profit becomes zero. Since there are no barriers to entry so anyone can copy the idea and practice it, thus increasing the supply and making the price down. This process will be continuous until there will be no economic profit let (Nishimori, and Ogawa, 2002).
Issue companies face in the Monopolistic competition:
Innovation and product development:
Innovation and product development is the critical issue in the monopolistic competition. Companies can not differentiate their products without any innovation and product development. So there is a critical need for this department (Tirole, 1986). But in doing so one can not forget its costs. For this purpose companies need to do cost vs. benefit analysis for the product innovation. If the cost of innovation and product development results in creating equal revenue for the company then company will continuously perform it.
Advertising and Marketing:
Again for developing a differentiated product the company needs to communicate with its customers in the different way. And need to tell them the benefits of their products which other are not offering. This can be done through advertising and marketing. Wile advertising two things are really critical. Firstly, one should know the costs of advertising and the cost vs. benefit analysis should give positive results. Secondly the demand and the optimal production should meet each other. The company only needs to advertise as much to reach the optimal point. After that the advertising cost will not only become surplus but it will create an economic loss for the company for producing more than the optimal production.
Oligopoly is very much similar to monopolistic competition, in between the two extremes of perfect competition and monopoly. Like monopolistic competition the company can produce similar products and compete only on prices or can make differentiated products and can compete on prices as well as quality, innovation and marketing. The difference lies in the entry to the market as oligopoly markets possess barriers to entry in shape natural or legal barriers for the new firms (Caves, and Porter, 1978). Due to this reason a few and limited numbers of firms compete in the oligopoly structure.
The natural barriers include the limited demand of the product. If the additional company enters the industry in which the already present companies are fulfilling the demands then the additional supply will make a fall in the price, thus all the making all the companies to go into the economic loss. Oligopoly can be named according to the number of firms as well like duopoly for the two firms etc.
Influence of Oligopoly on Companies:
In oligopoly the firms are very much dependent on each others' decisions (Mazzeo, 2002). For example, if one of these will decrease the price then their market share will increase, which results in the less demand for the other two firms making them to bear economic loss. So communication between the firms of the oligopoly is essential. The interdependence results the companies competing in the oligopoly structure in the temptation to cooperate. Due to which the companies in oligopoly makes a cartel to increase…