Market Structure and Competition Analysis

Market Structure and Competition Analysis

• Market structure and competitors

• Market Power

Competition

• When a company such as Mercedes reduces the price of the cars they manufacture, competitor companies such as BMW must react.
• Competition is important for all companies that are influenced by the actions of other businesses.
• If Mercedes lowers the price of their utility vehicles, Acura might follow suit with a price drop on similar models.
• It could also cause Jeep to adjust the price of their Grand Cherokee, despite not being direct competitors, the decisions of Mercedes can still affect those of Jeep.
• Indirect competition is important even if companies aren't directly competing, as they could quickly enter the market by offering products or services that satisfy the same consumer needs, known as the "threat of new entry.”
• With a coffee shop, for example, indirect competitors could be fast-food restaurants and cafes that offer beverages.
• Antitrust laws in Europe and the U.S. are in place and enforced by legal entities to manage competition.
• A cartel is a price or market-sharing agreement between several companies and is considered illegal
• Antitrust law does not condemn monopolies but abuses of monopolies, or firm concentration.
• Antitrust laws regulate the concentration of economic power to prevent companies from price colluding or creating monopolies.
• Proponents of antitrust laws argue that they keep consumer prices lower and foster innovation through increased competition.
• Collusion where firms cooperate to fix prices is one way in which oligopolistic firms may jointly determine prices.
• Price collusion, for example is where supermarkets collaborate to force their supplier/suppliers to offer them lower prices or they'll stop buying their supply from them.

Who are the competitors?

• Competitors can be defined as businesses or companies that offer similar products or services to the same group of consumers.
• Competitors can be classified into different types.
  • Direct competitors are companies that offer the same or very similar products or services (e.g., Coca-Cola and Pepsi, McDonald's and Burger King, Zoom and Microsoft Teams).
  • Indirect Competitors: These are businesses that offer products or services that are different but could satisfy the same customer need or desire (e.g., a restaurant and a fast-food chain, Uber and public transport).
  • Indirect competitors can also be classified based on their price points: Starbucks and Dunkin' Donuts, which offer coffee and breakfast meals, and target different customer segments (premium vs affordable).
• Potential Competitors are companies that aren't currently in the market but could enter in the future, increasing competition (e.g., a tech company considering launching a new smartphone).
• Substitute Competitors are products or services from different industries that can be used in place of another (e.g., public transportation competes with car ownership as a mode of travel).

Direct vs Indirect competitors

• Direct competitors sell the same products and services, but indirect competitors sell different products and services that can act as a substitute.

• Direct competitors' products compete on features, pricing, and quality, but indirect competitors' products compete on convenience, available, brand recognition, and significantly varied prices.

• Direct and indirect competitors both target the same needs and marketing strategy.

• Examples of direct competitors are Pepsi and Coca-Cola, as well as McDonald's and Burger King.

• Examples of Indirect competitors are Starbucks and Coca-Cola, and traditional learning institutions with online learning.

Importance of knowing competitors

• Knowing who competitors increases success as a business.

• This can help companies develop effective marketing and business strategies to gain a competitive edge.

• Knowing competitors means knowing products/services they offer and the price point of each to capitalize on unmet customer needs or to identify gaps in markets.

• Monitoring competitors' marketing strategies lets companies adjust their own marketing efforts to better fit customer expectations.

Substitute Goods

• These are goods and services that are interchangeable with one another

• These products/services perform the same function or satisfy the same need, therefore one can replace the other.

• Goods are considered substitutes if when an increase in the price of product "x" the demand increases for another product "y", assuming "y" remains unchanged.

• Conditions that must be met for products to be considered substitutable include:

  • Similar characteristics where the products offer similar features or benefits; for example Pepsi and Coca-Cola are both carbonated products with similar function and taste.
  • The same usage context; the goods are used for the same, or similar purposes.
  • the same market; the goods are available in the same geographical location, or market, meaning consumers can easily choose between them within that area.

• The degree of substitutability is determined by the cross-price elasticity of demand where if the cross-price elasticity is positive, it means that the two goods are substitutes; and if the price of one increases, it increases the demand for the product.

• The higher the elasticity, the stronger the substitution effect between the goods.

Market structures

• These are the four basic types of market structures in any economy:
  • Pure and perfect competition
  • Monopoly
  • Monopolistic competition
  • Oligopoly
• Several factors determine the structure of a market and influence how competition and pricing work within that market:
  • Nature of the goods and services
  • Number of sellers (firms)
  • Number of consumers
  • Barriers to Entry
  • Product Differentiation
  • Economies of Scale
• Each structure is intended to help understand competition and strategies even though some are theoretical.

Market Structure examples

• Examples of Oligopoly structure are the cellular networks, airlines, and auto industry.

• Under the Monopolistic competition structure are electronics, clothing and consumer services like makeup, bars, restaurants and hotels.

• Railways, standard oil, Facebook, and Google are all under Monopoly structure.

Perfectly competitive markets

• In these markets there is a high number of firms and goods are homogeneous.
• All firms face a high number of buyers that are aware of the prices, so there is free entry and exit from the market and there aren't any barriers.
• Each firm and buyer are price takers in perfectly competitive markets as the market price is the same for both.
• The market price is determined by the supply and the demand. The price cannot be influenced by the choices of individual buyers or sellers.
• An example would be if a firm increases their market price, they would lose all demand. Likewise, if the firm decides to decrease its price below the market price, the firm would lose its sales revenue,
• All firms are facing the same demand curve, and there is a decision of the output to produce.
• Some market sectors are close to being perfectly competitive being such sectors as agriculture, stocks, forex and Online retail for generic goods
• The firm can sell as many quantities as wanted but will usually not sell extremely high quantities as production scale increases.
• The marginal cost is the additional cost of increasing production costs with a very small unit.
• The average cost is the cost divided by the produced quantities.
• Conditions that need to be fulfilled simultaneously include:
  • Market atomism: Individual actions do not influence the market price
  • Perfect information: The consumers know the quality of the product and know the prices of all producers, and the producers know the willingness to pay of the consumers
  • Homogeneity: All firms sell a product that is considered to be identical and the goods are substitutes for consumers
  • Free entry and exit: Each firm can start production in the sector when the firm decides to, and each firm can exit the sector when the firm decides to do so
  • The free movement of factors of production: This means that capital and labor must be able to move freely in search of the remuneration opportunities through the free movement of capital around the world, as well as the opening of borders to migratory flows.

Monopoly Market

• A market is defined as a monopoly when one firm covers the entire market.
• Monopoly markets are also the sectors where firms can act freely with constraints such as increasing prices, reducing and/or losing quality or clients without the reaction of the market.

Conditions of monopoly

• The monopolist has a market power because buyers/consumers have no replacement options and the firm determines the final market price via the quantity produced.
• Consumers have the flexibility to set the price and output for the good, because there are no replacement options for buyers/consumers.
• Demand curve faced by a monopolist is downward sloping relatively inelastic curve.
• To maintain profits in the long run, barriers to entry must exist that prevent other firms from entering the monopolist's market, typically being:
  • Technological barriers
  • Exclusive right of use of production factors and legal barriers
  • Strategic behavior of the monopolist.
  • Network externalities

Monopolistic competition

• Monopolistic competition is a market structure with elements of both monopoly and perfect competition.
• The two main characteristics of these markets are:
  • A high number of sellers: Firms in monopolistic competition do not need to consider the reactions of other firms when making decisions. Many suppliers exist for similar products however suppliers are relatively small.
  • The sellers differentiate their products where each company has its own (downward-sloping) demand curve and has market power and creates a brand image through advertising.
• Products A and B are differentiated when consumers make purchasing decisions based on factors other than price. For example firms can differentiate their products allowing them to set prices without losing customers in perfect competition.

Oligopoly

• Unlike perfect competition, firms on oligopolistic do consider the reactions of other firms:
  • They require a limited number of firms which greatly impact performance.
  • Barrier entries limit the chance for new firms to join the market.
• The market must have firms consider the reactions of their competitors whenever a decision is made.
• Common characteristics on the oligopoly market include:
  • Many consumers and some supplies
  • Product variety and incomplete information
  • Strategic interaction between suppliers, where one firm affects another through chain reactions.
• Under these conditions, the monopolistic competitor, like the monopoly, can raise its price without losing all of its customers or lower its price and gain customers.
• A monopolistically competitive firm has substitutes and its demand curve is relatively more elastic than that of a monopoly.
• Monopolistic competitors who raise prices will lose more customers than a monopoly would.

Exercise 1

• New York Metropolitan is under Monopolistic and has one seller.

• Economics textbooks are under the monopolistic competition structure and have many authors each selling different products.

• The mobile telephone networks are under oligopolistic and have few producers in a technological / barrier entry environment.

Exercise 3

• A competitive market includes factors such as; a large number of buyers and sellers, homogenization of the selected goods and free entry to the market.
• Bottled water is the closest version of the competitive market in drinks.
• Tap water is produced by natural monpolies.
• The soda/beer market is regulated by a small number of players.

Quiz Answers

• An oligopoly means high number of companies and high barrier entries ---False, an oligopoly involves a few players in market share.

• A natural monopoly results from the existence of high fixed costs --- True, due to its efficient structure.

• Whatever the sector considered, competition guarantees a lower price for the consumer --- True, in normal scenarios.

• The PCM involves heterogeneous products but a large number of suppliers-----False, PPCM involves homogenization.

Quiz answers

• On a PCM the demand is inelastic-----False, demand is generally elastic.

• On an imperfect competition market, the demand is increasing with the price-----False, demand is decreasing with the price.

• On an imperfect competition market, companies can decide a price higher than the equilibrium price resulting from a PPCM-----True, they can set markets higher in imperfect competition.

• On an oligopoly, companies can decide the price to sell without considering the other companies-----False, strategies greatly consider the competitors.

II. Market Power

• This defines the ability of a firm in the market to influence their own price and services.

• A market structure means a control/significant effect on prices and productions.

Market power comes from,

• Limited number of suppliers.

• Entry barriers.

• Entry agreements.

• Making products that are unique.

• Companies try to increase their market power through these methods.

Competitive Intensity

• Competitive intensity is the measurement in the market, determined by aggressive competition, product offers and pricing.

• The market structures need the need the market structures to determine which competition methods need to apply.

• Porters five forces is a framework developed by Michael Porter to determine factors impacting competition in an industrial sector.

• These factors include: the threat of new entrants.

• Bargaining power of suppliers.

• Bargaining powers with buyers.

• The threat of substitute products or services.

• Industry rivalry.

Conclusion

• Pure and perfect competition refers to a competition market being total through no influence from any of the players/producers.
• Perfect competition is not considered good and might be inefficient through variables.
• Perfect competition markets are not very common such as in the Oligopoly and monopolistic models.

To achieve great market power a business requires to

• Be in an Oligopoly or monopolistic market.

• A low high level of competition.

• Through considering factors which are impacting results.

Market failure and externalities

• The benefit derived from market failure is for both the buyer and the seller to engage in transactions.

• Each party can be impacted from those externalities known as third parties.

• These impacts can include a wide range of conditions.

• Negative Externalities when any economic state reduces another without compensation such as pollution.

• Positive Externalities when an economic activity boosts non-paying individuals such as scientific research.

Negative Externalities

• All activities cause some type of negative externality that the market does not.

• They do not include external cost or damages.

• Demand is increased and prices become higher through full cost of entry.

• Externalities problems can be corrected through additional subventions of government.