What Is Market Structure


Firms and individuals willing and able to buy or sell a given product market structure

The competitive environment potential entrants

Firms and individuals with the economic resources to enter a particular market, given sufficient economic incentives

A market consists of all firms and individuals willing and able to buy or sell a particular product. This includes firms and individuals currently engaged in buying and selling a particular product, as well as potential entrants. Market structure describes the competitive environment in the market for any good or service. Market structure is typically characterized on the basis of four important industry characteristics: the number and size distribution of active buyers and sellers and potential entrants, the degree of product differentiation, the amount and cost of information about product price and quality, and conditions of entry and exit.

Effects of market structure are measured in terms of the prices paid by consumers, availability and quality of output, employment and career advancement opportunities, and the pace of product innovation, among other factors. Generally speaking, the greater the number of market participants, the more vigorous is price and product quality competition. The more even the balance of power between sellers and buyers, the more likely it is that the competitive process will yield maximum benefits. However, a close link between the numbers of market participants and the vigor of price competition does not always hold true. For example, there are literally thousands of producers in most major milk markets. Price competition is nonexistent, however, given an industry cartel that is sustained by a federal program of milk price supports. Nevertheless, there are few barriers to entry, and individual milk producers struggle to earn a normal return. In contrast, price competition can be spirited in aircraft manufacturing, newspaper, cable television, long-distance telephone service, and other markets with as few as two competitors. This is particularly true when market participants are constrained by the viable threat of potential entrants.

A potential entrant is an individual or firm posing a sufficiently credible threat of market entry to affect the price/output decisions of incumbent firms. Potential entrants play extremely important roles in many industries. Some industries with only a few active participants might at first appear to hold the potential for substantial economic profits. However, a number of potential entrants can have a substantial effect on the price/output decisions of incumbent firms. For example, Dell, Gateway, Hewlett-Packard, IBM, and other leading computer manufacturers are viable potential entrants into the computer component manufacturing industry. These companies use their threat of potential entry to obtain favorable prices from suppliers of microprocessors, monitors, and peripheral equipment. Despite having only a relative handful of active foreign and domestic participants, computer components manufacturing is both highly innovative and vigorously price competitive. The mere threat of entry by potential entrants is sometimes enough to keep industry prices and profits in check and to maintain a high level of productive efficiency.

perfect competition

A market structure characterized by a large number of buyers and sellers of an identical product price takers

Buyers and sellers whose individual transactions are so small that they do not affect market prices

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