Between Monopoly And Perfect Competition

oligopoly a market structure in which only a few sellers offer similar or identical products monopolistic competition a market structure in which many firms sell products that are similar but not identical

The previous two chapters analyzed markets with many competitive firms and markets with a single monopoly firm. In Chapter 14, we saw that the price in a perfectly competitive market always equals the marginal cost of production. We also saw that, in the long run, entry and exit drive economic profit to zero, so the price also equals average total cost. In Chapter 15, we saw how firms with market power can use that power to keep prices above marginal cost, leading to a positive economic profit for the firm and a deadweight loss for society.

The cases of perfect competition and monopoly illustrate some important ideas about how markets work. Most markets in the economy, however, include elements of both these cases and, therefore, are not completely described by either of them. The typical firm in the economy faces competition, but the competition is not so rigorous as to make the firm exactly described by the price-taking firm analyzed in Chapter 14. The typical firm also has some degree of market power, but its market power is not so great that the firm can be exactly described by the monopoly firm analyzed in Chapter 15. In other words, the typical firm in our economy is imperfectly competitive.

There are two types of imperfectly competitive markets. An oligopoly is a market with only a few sellers, each offering a product similar or identical to the others. One example is the market for tennis balls. Another is the world market for crude oil: A few countries in the Middle East control much of the world's oil reserves. Monopolistic competition describes a market structure in which there are many firms selling products that are similar but not identical. Examples include the markets for novels, movies, CDs, and computer games. In a monopolistically competitive market, each firm has a monopoly over the product it makes, but many other firms make similar products that compete for the same customers.

Figure 16-1 summarizes the four types of market structure. The first question to ask about any market is how many firms there are. If there is only one firm, the market is a monopoly. If there are only a few firms, the market is an oligopoly. If there are many firms, we need to ask another question: Do the firms sell identical or differentiated products? If the many firms sell differentiated products, the market is monopolistically competitive. If the many firms sell identical products, the market is perfectly competitive.

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