Forms of Market

We have seen perfect competition — many sellers of an identical product, all price takers. Real markets, however, range from many sellers to a single seller. The main forms of market are: perfect competition, monopoly, monopolistic competition and oligopoly. The opposite extreme to perfect competition is monopoly.

A monopoly is a market with a single seller of a product that has no close substitutes. The word comes from "mono" (one) and "poly" (seller). Its main features:

• One seller, many buyers — the single firm is the whole industry.
• No close substitutes for the product.
• Strong barriers to entry — other firms cannot enter (due to law, patents, control of a raw material, or huge size).
• The firm is a price maker — unlike a competitive firm, a monopolist can set the price (though it still faces the demand curve, so it must choose a price–quantity combination).

Because the monopolist faces the whole market demand, its demand (AR) curve slopes downward, and its MR curve lies below AR (as we saw in the revenue chapter). Examples include the Indian Railways (historically) and a local electricity or water supplier. A monopoly can charge a higher price and earn larger profits than a competitive firm, which is why monopolies are often regulated by the government to protect consumers.

Most real-world markets lie between the two extremes of perfect competition and monopoly. The most common is monopolistic competition — a market with many sellers selling similar but slightly different (differentiated) products. It combines elements of both competition (many firms) and monopoly (each firm has a unique brand). Its main features:

• Many sellers and buyers — but not as many as in perfect competition.
• Product differentiation — each firm's product is slightly different in brand, quality, packaging or design (e.g. different brands of toothpaste, soap, biscuits). This is the key feature.
• Freedom of entry and exit.
• Selling costs (advertising) — firms spend heavily on advertising to make their brand stand out.
• Each firm has some control over its own price (because of its differentiated brand), so it faces a downward-sloping demand curve — but the control is limited because close substitutes are available from rivals.

Everyday markets like toothpaste, soap, restaurants, clothing and biscuits are good examples of monopolistic competition. The benefit to consumers is variety and choice; the drawback is the high cost of advertising and the slightly higher prices that brand differentiation allows. This is the market form closest to what we actually see around us.

An oligopoly is a market dominated by a few large sellers ("oligo" means few). A special case with just two firms is a duopoly. Its main features:

• A few large firms control most of the market.
• Interdependence — this is the key feature. Because there are only a few firms, each one's actions (on price or output) strongly affect the others, so every firm must watch and react to its rivals' moves.
• Strong barriers to entry (large size, high capital needs).
• The product may be identical (e.g. steel, cement) or differentiated (e.g. cars).
• Firms often avoid price wars and may instead collude or follow a price leader; non-price competition (advertising, features) is common.

Examples include the markets for cars, mobile phones, airlines, cement and telecom in India — each dominated by a handful of big companies. The table below compares the four forms of market: