Market structures and their role in maximizing profits

Maximizing Profits

In the present day and age, several market structures are existent in the global economy. Each and every market structure is distinct in its way of being run and the power that it has over market prices, trend setting and demand. The key element that helps in distinguishing between different market structures is mainly the amount of competition present between several producers of a single type of product. In this paper, the characteristics and means of maximizing profits alongside the barriers to enter the market will be seen and the role of each structure in an economy will be explained.

Markets in which there is a high amount of competition (mostly referred to as competitive markets) are such that no single producer or consumer has the ability to alone influence the price of products in them. This means that if a producer tries to exploit consumers by raising its prices to a range that doesn't match the general price of the product, consumers will switch to buying the product from another of the infinite producers present in the market. Similarly, if a consumer tries to bargain and purchase a product at a lower price, he will not be successful in doing so because of an infinite number of other people willing to purchase the product at the chosen price. Most producers provide the same kind of good or service and generally, everyone is well-aware of the prices and quality of commodities. Also, in such a market, it is fairly easy for a person willing to produce a product to enter or exit, since there are no barriers in doing so.

In a competitive market, prices of commodities are determined by finding the equilibrium of the market's demand that is the willingness for people to purchase goods at a certain range of prices, and the market's supply, that is the willingness of producers to supply a good at a range of prices. The point of equilibrium of these two is known as the market equilibrium price. (Grant, 2008)

When it comes to the determination of the kinds of products to produce, producers are usually signalled to switch production from one commodity to another through the changes in prices. Wherever it is observed that the prices and profits earned are high, production is quickly switched into the making of that commodity. When prices are falling, the amount of output being produced is reduced. As a whole, the prices are similar in a competitive market, and the only way to increase profits is by reducing the costs of production and keeping the price constant, or by reducing the price of a commodity in such a manner that the price cut is not matched by any other producer. In this way, sales and profits may increase. However, usually, if a single firm increases its profits because of the introduction of a new method of production, the method is soon revealed to other producers as well. Thus, in a competitive market, such situations of thriving are mostly short lived.

Competitive markets play an important role in an economy. It is obvious through the information given above that a single producer cannot alone influence the market price, and there is always a battle of gaining a relatively higher market share by keeping prices the lowest. Therefore, this kind of market structure does not allow unnecessary profits to be made by producers, meaning there is an efficient use of scare resources. Also, whenever an increase in prices is observed, production is switched into the making of that commodity almost immediately and in this way, prices remain low due to the high amount of competition.

It is not incorrect to say a monopolistic market structure is perhaps the complete opposite of a competitive market structure. A monopoly exists when there is only one producer of a good, who has a high proportion of the market share. This one producer has complete power to set the price at its own will and because of the lack of other producers in the market, consumers have no other choice but to accept the price given to them for the purchase of that commodity.

A monopoly usually produces goods and services in bulk and therefore achieves internal economies of scale, allowing it to have a wide gap between average cost and average revenue. This kind of market continues to strive in this way because there are certainly many barriers which discourage other potential producers from entering the market. These barriers can be divided into natural barriers of entry and artificial barriers of entry. Natural barriers of entry are such barriers that are not applied personally by the main firm itself and the barriers are just existent. These include patents by the government that disallow other firms from entering into the market, a reputation as the first and best producer of the commodity, or the ownership of raw materials and other inputs by only a single producer. Alongside these, some barriers are imposed by producers themselves, like forcing suppliers to only deal with them, or threatening to withdraw the sale of their commodities in the stores of wholesalers if similar commodities by different producers are also sold. At times, they also reduce the prices to such an extent that other firms cannot match, thus driving all rivals out of business. (Titley, 1989)

A monopoly continues producing a certain type of good as long as there is sufficient demand for it. However, if the demand for a product decreases to a very low extent, the firm helplessly has to stop production due to the lack of revenue.

Similar to monopolies, there is also a market structure called an oligopoly in which there are a few producers of a good, rather than just a single producer, however, they are not infinite like in perfectly competitive markets. Together, they have control over the price of a commodity that they produce and also provide several barriers to entry for potential producers of the good or service.

In oligopolies, firms are usually interdependent upon each other, similar to competitive markets. Thus, if one firm reduces the price of their good, the other firm has to do the same in order to maintain its share in the market, or else be driven out. They also have to work closely on quality. When consumers observe a similarity in prices, they compare other factors which include the quality of the goods provided. Therefore, if one firm provides superior quality, the others must improve their own goods to continue thriving in the market. (Lipsey, 2007)

Although a firm may be well aware of its own costs and demands, it is not also necessary that it is well informed of the functions of other firms in the oligopoly. Similar to monopolies, oligopolies have the ability to make abnormal profits, but that too, must depend upon other firms as well, and is possible as long as demand for the commodity is present. If there is a sudden decrease of demand, for instance, due to an abnormal tax, causing inability to purchase a commodity such as petrol, an oligopoly may be forced out of business.