Understanding Market Structures and Demand Dynamics

markets

any arrangement where buyers and sellers come together to exchange goods, services or resources

perfectly competitive market

where competition is at its highest and resources are allocated in the most efficient way possible

assumptions of a perfectly competitive market

many buyers and sellers. homogenous goods, no barriers to entry or exit, mobile resources, perfect information, no government intervention

many buyers and sellers

there are many buyers - no single buyer can influence price; there are many sellers - no single seller can influence price making competition high

homogenous goods

all goods and services are identical meaning producers can't compete on anything but price

no barriers to entry or exit

allows new firms to join when there are opportunities and leave if their profitability falls

mobile resources

ensures that resources can be reallocated easily to their most efficient use

perfect information

all participants in market have complete and accurate knowledge about all aspects of the market

no government intervention

it is a free market with no implementation by the government

implications of a perfect competitive market

no individual firm possess market power, lowering costs means firms need high productive efficiency, high consumer satisfaction

demand

indicates the quantity of a good or service the consumer is willing and able to buy at different possible prices

ceteris paribus

all else the same

the law of demand

as price of good increases, quantity demand falls; as the price decreases, quantity demanded increases

theory behind the law of demand

income effect and substitution effect

income effect

occurs when a change in price of a goods or service affects consumers' purchasing power

substitution effect

explains when a change in the price of a goods and service causes consumers to switch to or away from it in favour of relatively cheaper alternatives

expansion along demand curve

results from an increase in the quantity demanded of hamburgers (movement down curve)

contraction along demand curve

result from decrease in quantity demanded (movement up curve)

what causes shifts of the demand curve

non-price factors

shift of demand curve to right

increase in demand at every price

shift of demand curve to left

decrease in demand at every price

non-price factors that affect shift of entire demand curve

changes in disposable income, preferences and tastes, the price of substitutes, the price of complements, interest rates, population demographics, consumer confidence

changes in disposable income

if consumer disposable income increases, purchasing power increases which increases demand; if consumer disposable income decreases, demand decreases

preferences and tastes

the subjective likes and dislikes and external influences that shape consumers choices and demand of services eg weather, marketing

the price of substitutes

goods that can replace each other in consumptions, change in price of market, consumers will prefer close substitute eg. beef and chicken, tea and coffee

explain price of substitutes with Good A and B being substitutes

if price of good A increased, demand of B will increase shifting to right

the price of complements

two or more goods that are consumed together eg.

Price of Complements

An increase of price of good X will decrease the demand for Good Y, shifting good Y to the left.

Interest Rates

Costs of borrowing money; if interest rates decrease, cost of borrowing is cheaper, thus more spending, which means an increase in demand.

Population Demographics

The statistical characteristics of a population such as age, gender, religion.

increase in population growth

would lead to increase demand

consumer confidence

the degree of optimism that consumers have about their future financial situation

example of consumer confidence

if customer confidence is increasing, they will have more tendency to spend their income increasing demand (shift right)

supply

indicates the quantity of a good or service a producer is willing and able to produce at different possible prices

supply curve

as price increases, quantity supplied increases (positive relationship)

law of supply

there is a positive relationship between the price of a good and its quantity supplied over a period of time

movements of the supply curve

price causes movements on supply curve

expansion along supply curve

increase in price will increase quantity supplied causing expansion

contraction along supply curve

decrease in price will decrease quantity supplied causing contraction

shifts on supply curve

caused by non-price factors which increase or decrease in overall supply at every price

shift to right on supply curve

increase in supply at every price would shift to right

shift to left on supply curve

decrease in supply would shift left

non-price factors that affect supply curve

changes in the costs of production, technology, productivity, climatic conditions

changes in costs of production

the price that producers pay for the scarce factors of production (land, labour, capital) that need to be utilised

example of costs of production

labour costs (wages), - decrease of labour in construction will lead to increased wages for them, making overall construction more expensive which decreases supply of new housing, shifting to left of housing

technology

improves productivity - improvement in technology will increase productivity which produces more at a lower price which increase supply which shifts to right

climatic conditions

the environment and weather related factors that impact the ability to produce goods or service

example of climatic conditions

eg severe flooding will decrease output for many markets which will shift to left of supply curve

productivity growth

increase in the output of goods and services per unit of input e.g training labour resource so they can work more proficiently and quicker

example of productivity growth

if productivity increase the firm's ability to supply will shift curve to right

equilibrium

opposing forces are equal, stable and harmoniously coexist - there is no shortages or surplus

market equilibrium

where the quantity demanded of a good is equal to the quantity supplied, resulting stable market price

disequilibrium - market shortage

where quantity demanded is greater than quantity supplied in a market there excess demand

disequilibrium - market surplus

where quantity supplied is greater than quantity demanded, therefore there is excess supply

what does increase in demand in every price do to market equilibrium

rightward shift of demand curve, market shortage as quantity demanded is more than quantity supplied, lead to higher price

what does decrease in demand in every price do to market equilibrium

leftward shift of demand curve, market surplus as quantity supplied is more than quantity demanded, lead to lower price

what does increase in supply at every price do to market equilibrium

rightward shift of supply curve, market surplus as more quantity supplied than demanded

what does decrease in supply at every price do to market equilibrium

leftward shift of supply curve, market shortage as less supplied and more demand

market mechanism

scarce resources are allocated via changes in the relative price of goods and services

what are signals

the changes in relative prices which show what goods and services are profitable and are in demand

market-based economy

a type of economy where resources are owned by individuals and resources are allocated via supply and demand and market mechanism

what does increase in relative price do

sends signals to producers that that good is more profitable which then they will have the incentive to reallocate their resources away from less profitable goods and towards profitable ones

what does decrease in relative price do

send signals to producers that the production of that good is less profitable then reallocate their resources away from that market and to a profitable one

what do producers aim to achieve through changes in relative price

allocative efficiency rank from least market power to most perfect competition, monopolistic competition, oligopoly, monopoly

perfect competition

many buyers and many sellers, homogeneous goods, no barriers to entry or exit, mobile resources, perfect information

perfect competition effect on price

firms compete on price which leads to low market prices

perfect competition effect on resource allocation

allocative efficiency is improved as resources are allocated to the goods and services that are most profitable

perfect competition effect on living standards

lower purchasing increases purchasing power which increases access to goods and services increasing material standards

monopolistic competition

many buyers and sellers, no barriers to entry or exit, product differentiation, some degree of market power

Monopolistic Competition Effect on Price

Firms have some control as product differentiation, higher than perfect competition but still competitive.

Monopolistic Competition Effect on Allocation

Do not have to produce at lowest cost as some market power and can sell at higher price due to differentiation with eg branding.

Monopolistic Competition Effect on Living Standards

Gives consumers options tailing to people's tastes and preferences therefore improve non-material living standards.

Oligopoly

Few sellers, high barriers to entry and exit, products may be similar or differentiate, high degree of market power eg airlines, cinemas.

Oligopoly Competition Effect on Price

Less competition means higher price.

Oligopoly Competition Effect on Allocation

Do not have to produce at lowest cost meaning decrease allocative efficiency.

Oligopoly Competition Effect on Living Standards

High prices mean decrease material living standard and higher profits which can be used to invest which will improve quality of life and improve non-material living standards.

Monopoly

One seller dominates the market, high barriers to entry and exit, high degree of market power as no competition eg AusPost, public transport.

Monopoly Competition Effect on Price

Prices will be higher due to no competition.

Monopoly Competition Effect on Allocation

No competition means they can raise price and limit product leading to decrease in allocative efficiency.

Monopoly Competition Effect on Living Standards

Higher prices reduce purchasing power decrease material living standards, high profits can invest and improve quality of life improve non-material living standards.

Competitive Markets

Perfect competition and monopolistic competition.

Less Competitive Markets

Oligopoly and monopoly.

Strategies to Increase Profit

Price discrimination, multiple branding, anti-competitive behaviour.

Price Discrimination

Occurs when a business charges different prices to different consumers for the same good or service based on demand, location eg. different movie ticket prices.

Multiple Branding

Occurs when a business sells similar or identical products under different brand names making it seem like there is more competition than there is.

Anti-Competitive Behaviour

This includes predatory pricing and cartel conduct.

Predatory Pricing

When a business deliberately lowers its price below cost to drive competitors out of the market; once competitors have left raise price again.

Cartel Conduct

When two or more competing businesses secretly agree to reduce competition by fixing prices, sharing markets, rigging bids or controlling supply instead of competing fairly.