Managerial Economics - Christopher R. Thomas-S. Charles Maurice

CHAPTER 1 Managers, Profits, and Markets 27
find a buyer for your car is to canvass your neighborhood, knocking on doors
until you find a person willing to pay a price you are willing to accept. This will
likely require a lot of your time and perhaps even involve buying a new pair
of shoes. Alternatively, you could run an advertisement in the local newspaper
describing your car and stating the price you are willing to accept for it. This
method of selling the car involves a market—the newspaper ad. Even though
you must pay a fee to run the ad, you choose to use this market because the
transaction costs will be lower by advertising in the newspaper than by searching
door to door.
market structure
Market characteristics
that determine the
economic environment
in which a firm operates.
Different Market Structures
Market structure is a set of market characteristics that determines the economic
environment in which a firm operates. As we now explain, the structure of a
market governs the degree of pricing power possessed by a manager, both in
the short run and in the long run. The list of economic characteristics needed to
describe a market is actually rather short:
■■
■■
■■
The number and size of the firms operating in the market: A manager’s ability to
raise the price of the firm’s product without losing most, if not all, of its buyers
depends in part on the number and size of sellers in a market. If there are
a large number of sellers with each producing just a small fraction of the total
sales in a market, no single firm can influence market price by changing its production
level. Alternatively, when the total output of a market is produced by
one or a few firms with relatively large market shares, a single firm can cause
the price to rise by restricting its output and to fall by increasing its output, as
long as no other firm in the market decides to prevent the price from changing
by suitably adjusting its own output level.
The degree of product differentiation among competing producers: If sellers all produce
products that consumers perceive to be identical, then buyers will never
need to pay even a penny more for a particular firm’s product than the price
charged by the rest of the firms. By differentiating a product either through real
differences in product design or through advertised image, a firm may be able
to raise its price above its rivals’ prices if consumers find the product differences
sufficiently desirable to pay the higher price.
The likelihood of new firms entering a market when incumbent firms are earning economic
profits: When firms in a market earn economic profits, other firms will learn of this
return in excess of opportunity costs and will try to enter the market. Once enough
firms enter a market, price will be bid down sufficiently to eliminate any economic
profit. Even firms with some degree of market power cannot keep prices higher
than opportunity costs for long periods when entry is relatively easy.
Microeconomists have analyzed firms operating in a number of different market
structures. Not surprisingly, economists have names for these market structures:
perfect competition, monopoly, monopolistic competition, and oligopoly.
Although each of these market structures is examined in detail later in this text,