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PERFECT COMPETITION Market Structure Refers to the particular environment of a firm, the characteristics of which influence the firm’s pricing and output decisions. There are 4 types of market forms namely Perfect Competition Monopoly Monopolistic Competition or Imperfect Competition Oligopoly PERFECT COMPETITION A theory of market structure based on four assumptions: there are many sellers and buyers, sellers sell a homogeneous good, buyers and sellers have all relevant information, and there is easy entry into and exit from the market. Assumptions: 1) Large number of buyers and sellers This is the most vital assumption under perfect competition a) Selling side b) Buying side 2) Each firm produces and sells a homogenous product The goods produced and sold are indistinguishable from one another. All firms produce exactly the same product. There is no question of any consumer preferring good A from B. the homogeneity ensures that both buyers and sellers are indifferent. Example tomatoes. 3) Buyers and sellers have all relevant information about prices, product quality, sources of supply and so forth (Perfect Knowledge) Buyers and sellers know who is selling what, at what prices, at what quality, and on what terms. This means that firms and consumers know all input and product prices everywhere in the market, so they can always buy and produce at the lowest price. Firms know the latest production technology and are aware of the prices of substitute inputs 4) Free Entry and Exit Firms can enter and exist the market easily. There are no barriers to entry or exit. 5) There is free mobility of the factors of production. Lack of market power and advertising Market power is the ability of a particular firm or consumer to affect price by producing more or less or by buying more or less. Small produce of an identical product in an industry in which potential rivals can enter
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readily and produce the same product, certainly have no individual control over their market. Without market power, the actors in competitive markets are necessarily price takers. Price taker A seller that does not have the ability to control the price of the product it sells; it takes the price determined in the market. No advertisement, too costly and will not pay. Each produce too small that it is easy to sell their product without advertisement Why is a perfectly competitive firm a price taker? A firm is restrained from being anything but a price taker if it finds itself as one among many firms where its supply is small relative to the total market supply (assumption 1) and it sells a homogeneous product (assumption 2) in an environment where buyers and sellers have all relevant information (assumption 3). The demand curve for a perfectly competitive firm is horizontal
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This note was uploaded on 01/28/2011 for the course ECON 1 taught by Professor Sm during the Spring '10 term at Laney College.

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