Maximizing Profits in Market Structures K-Alan Borders February 16, 2014 XECO212 Momoh Dudu

Introduction Nearly every company in America is in business for one main reason, to earn as much profit as possible. Profit maximizing, therefore, is an objective that is shared by all members in all three market structures. The differences lie in the way each structure attempts to meet this objective. Perfect Competition In a competitive market, companies are selling close to identical products and there are many buyers and sellers in the market. The sellers are known as price takers because they have no power to set the prices the goods are being sold for, conditions of the market determine what the price will be. Sellers in a competitive market accept the selling price because they can sell as much of the product as they want at that price and there are so many competitors for consumers to easily go elsewhere. There is a great deal of competition from other sellers who are willing to sell the same product at the market price so consumers have the option to choose where and from whom they purchase their goods from(Mankiw N. , Firms in Competitive Markets , 2007). In order for a company to profit from conducting business in this type of market the focus must be on the amount of output the company decides to produce. There are several relevant terms that need to be understood in order to calculate the necessary output requirements for a company to achieve profit maximization. Because the price is the same for any quantity produced, the marginal and average revenue is the same as the price of one unit sold. The firm maximizes profit when the marginal cost equals marginal revenue (Mankiw N. , Firms in Competitive Markets , pp.

294-295). When the marginal cost is more than marginal revenue, production should be decreased. When the marginal revenue is more than marginal cost, production should be increased to reach profit maximization. A monopolistic market is quite different from a competitive market. The main objective of profit maximization is the same, but the two have different characteristics that make them considerable opposites. Monopolistic Markets When a market consists of only one company that produces the good, it is known as a monopoly. This firm has all the market power. The firm sets the price, but not without limits. Usually prices are higher because there is no competition for the product. They do, however, have to consider what consumers are willing to pay for the product when deciding on price. If they charge too much, the consumer is shutout, demand drops and sales go down; the results of a downward facing demand curve. Lowering prices will boost the demand and profits will increase once again. To maximize profits in this type of market a firm should choose to produce a quantity at which marginal revenue equals marginal cost then use the demand curve to find the price that will induce consumers to buy (Mankiw N. G., p. 319 ch 15). The two different market structures discussed thus far have been the opposite of each other. In the middle are two more market structures; oligopoly and monopolistic competition. Both are competitive in nature, but not as much as the competitive market.

Imperfect Competition Monopolistic competition is like a monopoly market with regards to its market structure and its downward sloping demand curve. It is comprised of many firms that sell products that are similar but not identical. Each company has a kind of monopoly over the product it produces, but there are many others with similar products that are competing for the same customers (Mankiw N. , p. 346 Ch.16). The chosen quantity of production to achieve profit maximization is when the marginal revenue equals the marginal cost. The long-run equilibrium deals with the entry and exit of the firms. When profits are up, new companies enter the market. This shifts the demand curve and profits decline. With declining profits firms exit the market, this reduces the losses of the remaining firms and demand for product rises and so does profit. This continues until the market firms are making exactly zero economic profit which gives no incentive to new companies to enter and no incentive to remaining companies to exit ((Mankiw N. , Monopolistic Competition, p. 374). It is this free entry and exit that makes this hybrid market like a competitive market. The other type of market that falls under this category is an oligopoly market. This market consists of only a few firms that are sellers and they are interdependent. Companies that are interdependent are impacted by each others decisions. For the oligopolistic, the ideal situation would be to cooperate with each other and be able to profit with pricing above marginal cost like a monopoly. Since each member of the group is usually unwilling to think of more than their own profits, the ideal stays in

theory. Their unwillingness to cooperate with each other, in turn, is good for society. As long as they stay competitive the public will benefit from product surplus and lower prices(Mankiw N. , Oligopoly, p. 360). Free entry and exit into and out of these markets play important roles in the shaping of long run outcomes. One market structure that does not support free entry and exit is the monopolistic market. Especially in the case of a natural monopoly where one firm can produce the product cheaper than multiple firms, a new firm understands that if it enters into that market, it would not experience the level of profit that the monopolistic firm does due to the same reasons the natural monopoly occurred originally. Free Entry and Exit In a competitive market, free entry and exit does not affect the market or its members. It has no bearing on the market because the size of the market is very large compared to the size of the individual companies that make up the market. One new firm coming in or one existing firm going out does not change the price of the product. Competitive market firms are indifferent to free entry and exit. Oligopolistic markets are not easily entered into because the firms who participate are usually very large from joining multiple smaller firms into one big company. An oligopoly has only a few firms that produce and sell a specific product, free entry and exit is not really an option. The last market structure, monopolistic competition markets rely on free entry and exit to achieve long run equilibrium.

Conclusion The market structure environments are very complex in nature. There are many relevant factors that are involved in each ones decision making processes. References

Mankiw, N. (2007). Firms in Competitive Markets . In N. Mankiw, Principles of Economics (pp. 289-309). Mason, OH: South-Western Cengage Learning . Mankiw, N. (2007). Monopolistic Competition. In N. Mankiw, Principles of Economics (pp. 373-389). Mason, OH: South-Western Cengage Learning . Mankiw, N. (2007). Oligopoly. In N. Mankiw, Principles of Economics (4 ed., pp. 345371). Mason, OH: South-Western Cengage Learning . Mankiw, N. G. (2007). Monopoly. In N. Mankiw, Principles of Economics (4th ed., pp. 311-343). Mason, OH: South-Western Cengage Learning.