7.6 Different market structures

Natural monopoly commonly combines very high fixed infrastructure costs with low marginal cost and continuous economies of scale. It creates a cost-based barrier and may justify one network, but ownership can be private or public and regulation remains a separate choice.

These are analytical benchmarks. Define the product and geographic market first, then use observed features: a dominant firm plus a competitive fringe can behave effectively as monopoly even when small sellers remain.

Use all four syllabus dimensions: number of buyers and sellers, differentiation, freedom of entry and information. Then infer conduct. Many wheat farms with identical output and a market price approach perfect competition; a few branded networks with high start-up cost and an 85% five-firm share indicate oligopoly.

Free entry tends to remove supernormal profit in long-run perfect and monopolistic competition. Product differentiation remains in monopolistic competition, so its firm faces a downward-sloping demand curve even in long-run normal profit.

Specialised machinery with little resale value, long contracts and redundancy liabilities can trap resources in a market. High sunk entry cost therefore also weakens hit-and-run entry and reduces contestability.

A large cost is a strong barrier when entrants cannot recover it, cannot finance it on comparable terms or must enter near MES while total demand is limited. Low capital-asset commitment and recoverable assets reduce the barrier.

For a profit-maximising firm, locate output where MR=MC and MC is rising, then read price from AR/demand and profit from (AR-AC)×Q. Structure changes AR/MR, entry and strategic response—not this core method.

A perfectly contestable market has free, rapid entry and exit with no sunk-cost disadvantage, so credible hit-and-run entry constrains even a monopoly or oligopoly. Potential competition can force lower/limit prices, normal profit and cost discipline. Few incumbent firms does not imply low contestability; high sunk costs do.

Price competition includes price cuts and limit pricing. Non-price competition includes quality, advertising, branding, service and innovation; it may increase demand/differentiation but adds cost and can become a market barrier. In a non-collusive oligopoly, rivals may match price cuts but not price rises, producing a kinked demand curve and price rigidity—not a proof that price never changes.

Collusion coordinates price/output to raise joint profit and is easier with few firms, similar costs/products, stable demand, high entry barriers and observable conduct. Differentiation, unstable demand, secret discounts, many firms and legal penalties make it harder. Collusion can raise price, restrict output and reduce allocative/X-efficiency, though scale or investment claims require evidence.

For a two-player pay-off matrix, read each firm's best response for every rival action. A dominant strategy gives the higher payoff regardless of the rival. The Nash equilibrium is the cell where both are best responding; it can give each less than mutual cooperation because each has an incentive to undercut or defect. Repetition, monitoring and punishment may sustain collusion, but cheating remains attractive.

Define the same product, geographic area, period and sales measure; rank firms from largest to smallest; add the largest n shares. If raw sales are supplied, divide their sum by total market sales before multiplying by 100.

Shares of 32%, 26%, 22%, 10% and 5% give CR4=32+26+22+10=90%, suggesting a highly concentrated, likely oligopolistic market. If the largest four later sum to 71.1%, CR4 has fallen by 18.9 percentage points—even if individual membership changes.

A higher ratio means a larger share is held by the leading firms and may signal greater market power or interdependence. A falling CR3 or CR4 indicates reduced concentration on that measure, not necessarily falling total sales or profits.