UNIT 4: Forms of Market and Prlee Determinatlon 245

4.1 Perfect Competition

Market Equilibrium under Perfect Competition
auilibriun is deined as a situation where the plans of all consumers aud
the market clears, In cquililbrium, the total quantity that all frms wish to scll frns
equalsinthcthequantity
market that
matchall and
the
Consumcrs in the market wish to buy. In oher words:
Wnfectly competitive market is in cquilibrium when market demand cquals markct supply.
Ce nrice at which market demand cquals market supply (Qy Q) is called cquilibrium
bought and sold at cquilibrium price is called cquilibrium quanity. price
and the quantity
"Thus. the cquilibrium price and quantity are achieved at: Q,) - Q
TABLE 4.1: Price Determination under Perfect Compctition
Price per unit Market Demand (Q) Market Supply (Q) Market Siuation
(in ) (in units) (in units)
10 1000 200 Excess demand - 800
11 800 400 Excess demand 400
12 G00 600 Equilibrium
(zero cxcess demand-zero cxcess supply)
13 400 800 Excess supply = 400
14 200 1000 Excess supply = 800
In the above schedule, market cquilibrium is established at a price of 12 per unit (equilibrium price) with
equilibrium quantity of 600 units, because at this price market demand and market supply are cqual.
When market price is lower than the equilibrium price
It is a situation of excess demand in the market.
Excess demand refers to a situation when quantity demanded Price
is more than quantity upplied at the prevailing market price. D

(Ep =Qo-Qs) Excess Supply

There will be competition among the buyers. Some P
M N
consumers who are either unable to obtain the commodity
at allor obtain it in insufficient quantity will be willing to
pay more price.
" The market price would tend to increase. P
Ex¢essDemand
As price risces, quantity demanded falls (contraction of demand) D

and quantity supplied increases (extension of supply). Q1 Q3 Q Q4 Q2

This process will continue till price rises to the equilibrium Quantity

price at which market demand equals market supply. Figure 4.1

When market price is greater than the equilibrium Market Equlbrlum under Perfect Competitlon
DD and SS are market demand and market supply curves
price Intersecting at E. OQ quantity (Equllbrlum Quantity) would
It isSa situation be offered for sale and demanded by the buyers at OP price
of excess supplyin the market. (Equllibrlum Prlce). The industry is in equlibrlum.
Excess supply refers to asituation when quantity supplied is If the prevaling market price ls OP, market demand is OQ,
more than quantity demanded at the prevailing market price. whereas market supply ls only OQ,. Therefore, there is
excess demand In the market (-AB =Q,Q,).
(E_ =Qs-Q) If the prevallng market price is OP,, market supply is oa,
There will be competition among the sellers. Some firms whereas market demand ls only OQ,. Therefore, there is
excess supply in the market (= MN=Q,Q,).
will not be able to sell their desired quantity of output.
 Microeconomics XI- by Subhash Dey
246

clear the unsold stock.

So, they will lower the price to (expansion of demand) and quantity
supplied falls (contraction of
" As price falls quantity demanded rises
equilibrium price at which market
demand equalP. supply).
continue till price falls to the
This processwill
supply:.
perfectly competitive firm
Derivation of AR and MR curves of a determined by the combined forces of marker d
commodity is
Since under perfect competition, price of a price maker. An individual firm has no role in the determination
and market supply. herefore. industry is the of
is the price taker. No individual seller or buyer can influence
the price of the commodity. Therefore, a firm industry level.
market price of the commodity determined at the constant, therefore An
We know
will be constant.
always equal to AR. Since under perfect competition price is
So, ische AR curve will be perfectly elastic (parallel to the X-axis). As per the average-marginal
that pric
relationship, when AR is constant, MR = AR. Therefore, AR curve is also the MR curve of the firm. MR curve

coincides with the AR curve. Both are horizontal straight lines parallel to
the X-axis.

Industry
(Price-maker) Revnue Firm
(Price-taker)

Prlce P
Price line/Perfectly
elastic demand curve
AR = MR

q2
Quantity Quantity

Figure 4.2

Numerical 1

Suppose the demand and supply curves of a commodity-X is given by the following two equations
simultaneousy
Qa= 200-p andQ, = 120 +p
(i) Find the equilibrium price and equilibrium
(ii) If market price is 25, what changes will takequantity.
place in the market? Explain.
(iii) If market price is T45, what changes will take
Solution: place in the market? Explain. (6 marks)

(i) We know that the equilibrium price

and quantity are achieved at:
Q = Qs
200 -p = 120 + p
Therefore, Equilibrium Price( p 2p
=(40
= (80
and, Equilibrium Quantity Q =
Alternately, 200 40 = 160 units
Q = 120 + 40 = 160 units
 UNIT 4; Forms of Market and Price Determlnatlon
247

(ii) At prie
herefore, at P1 (25, Q > P25, Q -200 25175 and ), - 120 + 25 = 145.
which means that there is excess demand at
Alecbraically, excess demand can be expressed as: this price.
Ep Qa - Q.
-200 --p
The excess demand leads to competition between (120 + p)- 80- 2p
consumers
of demand and extension of supply. These changes continue causing orice to rie. Rise in price leads to contractIon
hich market demand is cqual to market supply till price rises to the original equilibrium level 40, at
and the excess dermand becomes ero.
) At pricc P2 4)2 200 - 45 155 and ), - 120 +45 166
Therefore, at P: 45, > Q which means that there is excess
Algebraically. cxcess supply can be expressed as: supply at this price.
Es Q,- QA
- 120 +
The excess supply leads to competition betweenp-(200 -p)- 2p - 80
producers causing price to fall. Fall in price leads to expansion of
demand and contractionof supply. These changes continue
which market demand is cqual to market supply and the excesstill price falls to the original equilibrium level 40, at
supply becomes zero.

Do it yourself 1
Suppose the demand and supply equations of a commodity Xin a perfectly competitive market are given by:
Qa = 1700 2P
Q = 1300 + 3P
Calculate che value of equilibrium price and equilibrium quantity of the commodity X. (4 marks)
[Ans. 1,540 units]

Numerical 2

Suppose the demand and supply curves of a commodity X, in a perfectly competitive market are given as:
Qa = 2200 - 3p, and
Q, = 1800 + 2p
Estimate the values of equilibrium price and equilibrium quantity of the commodity X. (3 marks)
Ans. At equilibrium under perfect competition is established where demand =supply
Therefore,
2200 -3P = 1800+ 2p
SP = 400
Equilibrium Price = 80
Equilibrium Price = 80 in Q or Qs
Lquilibrium quantity can be determined by substituting
Qa = 2200 3P
Q = 2200 - 3(80)
Equilibrium Quantity = 1,960units

Do it yourself 2
simultaneously:
Suppose the demand and by the following two equations
a Commodity-X is given
supply curves of + 2p
Q = 200 -p, Q, = 50 S e 3 marks)
Find the cquilibrium
[Ans. 150 units] price and equilibrium quantity.
 Microeconomics XI- by Subhash Dey
248

Maximum Price Ceiling-An Applicationlimit of Demand-Supply Analysis

on the price ofa good by the government.
Price Ceiling refers to imposition of upper
(Maximum)
commodities needed by masses, like wheat rice, sugar etc.
" Price ceiling is generally imposed on cssential
" It is fixed below the cquilibrium price.
" The reason being the equilibrium price is too high
a

for the commonpeople to afford.

The main reason for imposing price ceiling is to protect
the interests of the consumers in situations in which they
are not able to afford needed essential commoditics. E

Consequences of Price Ceiling

P
Since price ceiling is below equilibrium price, there Maximum
excess demand/shortages in the market.
Excess Demand
(Shorages)
Price Ceiling
To deal with such a situation the government may D

resort to rationing of the commodity. With shortages,

sellers tend to hoard the product (hoarding). Q
It could also lead to black marketing. Black Quantity
marketing implies a situation whereby the Figure 4.3
commodity under the government's control policy Effects of Maximum Price Ceiling
is illegally sold at a higher price than the one fixed OP, is price ceiling while OP is equilibrium price. Producer
by the government. It may primarily arise due are not allowed to sell go0d at a price greater than OP
to the presence of some consumers who may be
Since price ceiling is below equilibrium price, there is excess
demand/shortages (- AB = Q,Q) in the market. Excess
willing to pay higher price for the commodity. demand could also lead to hoarding and black marketing.

Source-based Integrated Question As per CBSE New Question Paper Design 2020-21
Question:
Suppose the market determined rent for apartments is
forward to help those seeking apartments on rent by too high for common people to afford. If the government comes
imposing control on rent, what impact will it have on the
apartments? Explain using diagram. market for
Answer: Y
Rent D
Rent control refers to imposition of upper limit on
The reason being the market determined rent of apartments.
for common people to afford. Ceiling on rent is rent for apartments is too high
fixed below the market
determined equilibrium rent for apartments.
For example, suppose market determined rent is Z5000 E
75000
government finding it too high fixes the maximum rent at per month. The
month. Since government 3000 per 73000
market determined rent, it imposed ceiling on rent is lower than the
will create excess demand for
Ceiling
on Rent
There will be shortages of apartments (= apartments. ExcessDemand
will not be able to get apartments on AB =n,n,) and many people (Shortages)
also lead to illegal hiring of rent at 3000 per month. It could
month, as fixed by government. apartments on a rent greater than 3000
per n
Number of Apartments
Price Floor (Minimum Price
Price floor (minimum price Ceiling) -An Application of
OR 'Price floor is the ceiling) refers toimposition of alower
limit on
Demand-Supply Analyss
minimum the
Price floor is fixed above theprice fixed by the government at which sellers price of a good by government.
Price floors are used by the market
determined can legally sell their product.
government to preventequilibrium price.
prices from being too low.
 Forms of Market and Prlee
UNIT 4:
Determlnatlon
main reason for
The imposing
the p1ce
the welfare of the producers/larmer,. floon poicy in 249

Eumples:

() The minimum support price

Minimum Wage Legislation
minimum
support price, producers wil be
Ar
but the buyers will bewilling to buy wlllng to suply
more
commodity.This creates cxcess less quantity of the
supply/surplus
cOTurn may lcad to lcgal selling below in the narket.
the
ceiling as the producers are
not able to sell ininuun what hey
desire to sell.

order to the minimum

maintain
In
design some programmes to
may support price, the
gOVermment

off their surplus stocks. enable producers

to dispose One such Flgure 4.4
zke the form of buffer stock. Government programme can
Effscts of Prlce Floor (Minimum
may purchase Buppose OP, Is prlcs floor fized Prloe Geiling)
sell it at
the surplus to store or
ty the grrvgmnent
subsidised prices in situation Cornmodity wherga9 OP ls gquilibrlurn prlce on the
Prorars are
the production of the supported not allowod to sell yo0d at a
At minimurm support prlcoprlcAlwer than OP,
Gorernment may also use it as aid commodity
and send it to suffers. Supply moro (00,)
OP, produArg are willirng tr
but the huygrg
other (only OO,). This Grgates gyC999 arg willing to buy lg99
ountries.
,0,) in the rmarket, 9upply/surplus (- AB

Source-based Integrated Question

As per CBSE New Questlon Paper Design
Question: 2020-21
Cnnse the equilibrium market wage rate
is(14000per month. The government inding It
a8000 per month. Examine the implications of thls decision. Use diagram. low txes minlmum wage rate
Arnswer.
Y
Tarough the minimum wage legislation, the government Wage
rde of the labour does not fall below a particular ensures that the wage Rate ExCP SuJDply of Labur
level. The minimum wage rate (Surplus Labour)
s fued above the equilibrium wage rate. 18000 Minlmum
|Payment of wage rate (18000) higher than equilibrium wage rate (14000) leads i4000 Wage Rate
to ecess supply of labour/surplus labour in the labour market as shown in the
iagam, equal to AB (= L,L).
Snce supply of labour is greater than demand for labour, it may lead to
emplryment equal to Ly
Quantity of Labour

EHects of shifts in demand

Chain effects of
increase in demand
Iherease in demand means more quantity demanded of the good at the same price due to change in any factor
her than he
own price of the good, for example,
fise in the price of substitute goods,
fall in
" rise the price of complementary goods,
in
" fall in income of its buyers (in case of a normal good),
income of its buyers (in case of an inferior good),
favourable change in taste etc. for the good and
Increase in the number of its buyers.
Increase in demand creates excess demand at the given cquilibrium price.
e excess demand leads to competition between consumerS.
 250 MiereREOnemies %1 =by Subhash Dey

p and highetqililium y
Thus, du to inweadee in lennnd, ililim pie nl
rquilihium qvaniy lboth iese beeaer *
demand in the maket
Table 4.2, Vet ofnwease ln demand
Plee Orinal equilibrium New vquilibrlum
Demand Supply Demand Supply
I000 200 100 200)
00 400 I200
o00 1000 o00
40 400 RO0 H00 Figure 4,5
50 200 1000
Ftocts Increao in darnand on squilibrum
600 j000 oee
and squilibium quartity
Table 4.2 shows that the market is in equilibrium when
price is 30 per unit because at this price demand
supply (- G00 units), Now, demand increasCS, As acquals
result, 9uilibriunnprius ardquartityrstrvsty
new market demand cquals market supply Nw. thery is incasa49 in doffigrd
{40per unit and the quantity is 800 units, when price is dornand curvs t) D,D,, It caussS(ausing rghtWard te
rmarkst, Tho new 9quilibriurn poit G/C8$S dsrnard in
cquilibrium price and quantity both increase.Therefore, is E, Eruilitruurn sfes
rises to OP, and 9quilibriurn quantity rises to
00.
Chain effects of decrease in demand
Derease in demand means less demand of the
good at the
sarme price due tochange in any factor other than
price of the good, for example, the own
D
" Fall in the price of substitute
" Rise in the price of goods,
complementary
" Fall in income of its buyers goods, P
(in case of a normal P
good),
Rise in inome of its buyers ((n case of
an inferior
good),
"
Unfavourable change in taste ctc. for the good and D,
Derease in the number of its buycrs X
Decrease in demand creates Quanty
CKCHS supply at
the given cquilibrium price.
The cXUCS% Figure 4.6
supply leads to competition Efects of decrease In demand on equlibrlum pr
between producers, and equllbrlum quantity
It will reult in fall in
pric. Initlally, market of agood (say X) is in equilibrium at point E
This process will continue till Where the market demand curve DD and the markel up
point is attained with a lower new cquilibrium Curve 88 Intersect each other so that OP and 00 are the
quantity, price and lower oqullbrium prlce and quanty respectively.
Thus, bodo equilibriun prie Now, there ls decreasein demand causing leftward shftin
to dereae in demand. and quanity decrease due demand curve to D,D,, It causes excess Supply in the
market. The new equilibrlum point is E,. Equilibrium prce
Talls to OP, and equlibrlum quantity falls
to Od,
 fMarket and
of, Price Determination 251
Forms

UNIT
4:
TABLE 4.3: Effect of decrease in
demand
Original equilibrium New equilibrium
Price

Demand
Supply Demand Supply
1000 200
10
500 200
800 400 400 400
20
600 600
30 300 600
400 800
40 200 800
200 1000
50 100 1000
Tble 4.3shows that the market is in equilibrium when price is 30 per unit because at this price demand equals
supplr(=600 units). Now, demand decreases. As aresult, new market demand equals market supply when price
unit and the quantity is 400 units. Therefore, equilibrium price and
is 20 per quantity both decrease.
Eiects of shifts in supply
Chain effects ofincrease in supply
means more Supply of the good at the same price due to change in any factor other than the
Increase in supply
ofthe good, for. example,
ownprice
. Technological progress
. Fall in input prices
. Decrease in taxes (e.g., Goods and Services Tax)
. Fall in prices of other goods in production
. Increase in number of firms producing the good D
Increase in supply creates excess supply at the
given equilibrium price.
The excess supply leads to competition
between producers. P.
It will result in fall in price.
This process willcontinue till new equilibrium
point is attained with a lower price but a
higher quantity. X
Q Q
Ihus, equilibrium price falls but equilibrium quantity rises Quantity
due to increase in supply.
Figure 4.7
TABLE 4.4: Effect of increase in supply Efects of increase in supply on equilibrium price
Pice Original equilibrium New equilibrium and equilibrium quantity
Demand Demand Supply Initially, market of a good (say X) is in equilibrium at point 'E'
10
Supply where the market demand curve DD and the market supply
OQ are the
1000 200 1000 400 curve SS intersect each other so that OP and
20 800 equilibrum price and quantity respectively.
800 400 800
30 Now, there increase in supply causing rightward shift in
600 1200 supply in the
600 600 supply curve to D,D,. It causes excess
40 Equilibrium price
400 800 400 1600 market. The new equilibrium point is E,.
S0 falls to OP, but equilibrium quantity rises to OQ,.
200 1000 200 2000
Table 4.4 shows that the market is in equilibrium when price is 30 per unit because at this price demand
tquals Supply (= 600 units). Now, supply increases. As aresult, newsupply equals market demand when price is
per unit and the quantity is 800 units. Therefore, equilibrium price falls but equilibrium quantity rises.
 252
Mictoeconomics -by Suhash Dey

Chain effects of decrease in supply

charige in arny fary.
Decrease in supply means less supply f the grrat at the sarrne prit due
own price of the grod. fot evample
Obolete technology
Rise in input priccs
" Increase in taxes
" Rise in prices of other goods in production
Decrease in number of firms producing the gmd
Natural factors, eg. damage of crop due to bad
weather, etc.
Decrease in supply creates cxcess demand at
the given cquilibrium pric.
The cxcess demand leads to competition
betwecn consumers.
It will result in rise in price.
This process will continue till new
equilibrium point is attained with a higher
price but lower quantity.
Thus, cquilibrium price rises but equilibrium quantity
falls due todecrease in supply.
Figure 4.8
TABLE 4.5: Effect of decrease in supply
Effects of decrease in supply on equilibrium prica
Price Originalequilibrium New equilibríum and equílibrium quantity
Demand Demand Inftialy, market of a good (say X) isin equilibrium at poit E
Supply Supply where the market dermand curve DD and the marke suoy
10 1000 200 1000 100 Curve SS intersect each other so that OP and O0are te
20 800 400 800 200 equilibrium price and quantity respectively.
30 600 600 600 300
Now, there is decrease in supply causing leftward shift r
Supply curve to D,D,. It causes excess demand in te
40 400 800 400 400 market. The new equílibrium point is E. Equilibrium rica
50 200 1000 200 500 rises to OP,but equilibrium quantity falls to O0.
Table 4.5 shows that the market is in equilibrium when price is 30 per unit because at this price demand
equals supply (= 600 units). Now, supply decreases. As a result, new supply equals market demand when picz
is 40 per unit and the quantity is 400 units. Therefore, equilibrium price rises but equilibrium
quantiry fals.
Numerical 3
Suppose the value of demand and supply curves of a Commodity-X is given by the following two cquations
simultaneously: Qd =200- 10p and Qs=50 +15p
() Find the equilibrium price and equilibrium quantity of
commodity X.
(ii) Suppose that the price of afactor inputs used in producing the commodity
supply curve has changed, resulting n
new
given by the equation: Q' 100 +15p
Analyse the new equilibrium price and new equilibrium quantity as against the original equilibrium price and
equilibrium quantity. (6 marks)
Solutiont
() We know that the cquilibrium price and
quantity are achieved at: Qu =Q
200 - 10p = 50 + 15p
150 =25p
 Forms
of Market and Price Determination
UNIT 4:

Therefore, cquilibrium price p = R6

253
Equilibrium
quantity Q- 200 (10) (6)
- 140
() If the price of factor of producion has units.
changed,
100 + 15p then under the new
200 10Op =
25p = 100 condition: Qa- Q
Therefore, Equilibrium Price p =T4
Equilibrium Quantity Q= 200 -(10) (4) -
Thus, the equilibrium price is 160
decreasing and the units.
equilibrium quantity is increasing,
yourself 3
Do it
Suppose
the. demand and supply curves of
Qa = 200-p, Q, = 50 a+Commodity-X is given by the
() Find the equilibrium price and
2p following rwo equations
equilibrium quantity. simultaneously:
(i) Suppose that the price of a factor of production
new supply curve given by the
Analyse che new equilibrium price
equation: Q =80producing
+2p
the commodity has
changed, resulting in the
equilibrium quantity.
and new equilibrium quantity
as against the original
JAns. () 150 units (i) 160 units] equilibrium price and
(6 marks)

The simultaneous shifts can happen in four

Simultaneous shifts of demand and
possible ways: supply
I Both demand and supply
curves shift rightwards (i.e., increase in
both
I Both demand and supply
curves shift leftwards (i.e., decrease in both demand and supplv).
II Demand curve shifts leftward
and supply curve shifts rightward demand and supply).
IV. Demand curve shifts rightward and (i.e., decrease in demand and increase
supply curve shifts leftward (i.e., increase in in supply).
|The impact on equilibrium price and demand and decrease supply).
quantity in all the four cases are given in the following
table.
Shift in Demand
Shift in Supply Price
Rightward Rightward May increase, decrease or remain
Quantity
Increases
unchanged
Leftward Leftward May increase, decrease or remain Decreases
unchanged
Leftward Rightward Decreases May increase, decrease or remain
unchanged
|Rughtward Leftward Increases May increase, decrease or remain
unchanged

Eifect of increase in both market demand and market supply

There are three possibilities:
1.The percentage increase in demand is greater than the percentage increase in supply
percentage increase in demand is greater than the percentage increase in supply, equilibrium price will rise.
The price will
rise because of excess demandin the market.
 254 Miereecenemies Xl =by Subhash Dey
Initially, markct to he goodi in cqulibnn int
where the market demdve DDand tle ke ly
curve SS interse so that Op and ate the cqulilinu
|
price and quantity rrspeively Now, ihee i lnuese
in demand. Inrease in demand means mote quatly
demanded at the sanne pue. As a resul, demand uve
shifts to the right to D,D, whih reates CNCW dennd.
Price
p
Supply alko increases. lntvaNe n suply nemN more
quantity supplied a the sane prke. As a tesul, supply
curve also shifts to the iight to S,S, whih etes cxew
supply. Since percentage increase in demand is greater than
the percentage increase in supply, there is cxcess denand
in the markct. The excess denand leads to connpetltlon
berween consumers causing price to rise. lRise in price leads Quantity
to decrcase inquantity demanded (contraction of deuand)
and incrcase in quantity supplied (extension of supply). Flgure 4,9
These changes continue till the ncw cquilibrium price rises
from Op to Op, and cquilibrium quantity increases from
Oqto Oq1 as shown in Figure 4,9).
2. The percentage increase in demand is less than the percentage increase in supply
lf the percentage increase in demand is less chan the
percentage increase in supply, equilibrium price will fall. D,
The price will fall because of excess supply in the market. D
Initially, market for the good is in equilibrium at point
e where the market demand curve DD and the market
supply curve SS intersect so that Op and Oq are the
equilibrium price and quantity respectively. Now, there
Price
is increase in demand. Increase in demand means more P
quantity demanded at the same price. As a result,
demand curve shifts to the right to DD which creates
excess demand. Supply also increases. Increase in supply
means more quantity supplied at the same price. As
a result, supply curve also shifts to the right to S,S;,
which creates excess supply. Since percentage increase in
demand is less than the percentage increase in supply, Quantity
there is excess supply in the market. The excess
supply
leads to competition between producers causing price to Figure 4.10
fall. Fall in price leads to increase in quantity demanded
(expansion of demand) and decrease in quantity supplied (contraction of supply).
new equilibrium ej, cquilibrium price falls from Op to Op and These changes continue tila
increases from Oq to Oqi (as shown in Figure 4.10). equilibrium quantity demanded and suppe
3. The percentage increase in demand is equal
When both market demand and supply to the percentage increase in supply
increase
is equal to the percentage increase in supply, in the same proportion, i.e., the increase in
demand
percentage
The price will remain unchanged because price will remain unchanged.
there is neither excess demand nor excess
Initially, market for the good is in equilibrium at supply in the market. market
supply curve SS intersect so that Op and Oq are point 'e where the market demand curve DD and the
the equilibrium price and quantity
respectively. NoW
 TA
Forms

Stermination
hh trstre t t detnand hifts t
the, Pply vr ale demand 'wiyply 255
whih ratrecu eo6 pply. Sineshifts t th
demand is rqusl to the
is neithet cxc%
peteentagr
petentay ineae in
the demand not eee
the
make,
Therefoe, at
|Howevet,
changrd an (Op.
new
equilbriun , pricesipply Price
from Oq tn O,(as sh,own in equilibrin
Vigue 4.11).uantity
of simultaneous
Effect
TABLE 4.6
lequilibrium
rightward shifts
Phe
Original
New equilibrium
Demand Supply Demand
J00 200
150 Supply
300
150 150 225
100
225 Quantity
200 300
150 Figure 4,11
shows that the markct is in cquilibriun
príce to rcmain hen price is 2per
unchanged, in the table there
gply For unit because at
equilíbrium price remains unchanged at 2 per unit. is 50% increase in both demandthis price dernand equals
and supply. Therefore,
EHectoffdecrease in both market demand
Thete ate three possibilities;
and market supply
The percentage decrease in demand is greater
han the percentage decrease in supply Y^
iguúlibriurn price will fall. The price will fall because of D
aS suply in the market,
D,
ialy, market for the good is in cquilibrium at point
where the market demand curve DD and the market
wply curve SS interscct s0 that Op and Oq are the
Price
quiirium price and quantity respectively (as shown in
igue 4.12), Now, there is decrease in demand. As a result,
mand curve shifts to the left to D,D, which creates
UN pply. Supply also decreases and thus, supply curve
odlihts to thc lcft to S,S,,which crcates excess demand. D
the perccntage decrcase in demand is greater than X
e eicentage decreasc in supply, there is excess supply in
Quantity
hasket. Thercfore, at ncw cquilibrium cl, price fill fall
pto Oq and cquilibrium quantity also decreases Figure 4.12

The percentage decrease in demand is less than the percentage decrease in supply
Vauilabrium price wil rise. T'he price wil rise because of excess demand in the market. marker
,market for the at point 'e' where the market demand curve DD and the
ply curve SS interscctgood
so that
is in Op and Oq are the equilibrium price and quantity respectively (as shown in
cquilibrium
lywe 4.13), Now, there is dccrcase in demand. As a result, demand curve shifts to the left to D,D, which creates
the left to S,Sj, which creates excess
curve also shifts to
Armand, Sim.Supply
e
also decreases and thus, supply
les than the decrease in supply, there is
excess demand in the
percentage decreasein demand is
 256 Microeconomics XI- by Subhash Dey
market. Therefore, at new equilibriunm el, price will rise from
Op to Op, whereas cquilibrium quantity decreases from Oq
to Oq1
D
3. The percentage decrease in demand is equal to
thepercentage decrease in supply p,
When both market demand and supply decrease in the same
proportion, i.c., the percentage decrease in demand is equal
to the percentage decrease in supply, cquilibrium price will
remain unchanged.
The price will remain unchanged because there is neither D
exCess supply nor excess demand in the market.
Initially, market for the good is in equilibrium at point 'e'
where the market demand curve DD and the market supply Quantity
curve SS intersect so that Op and Oq are the equilibrium
Figure 4.13
price and quantity respectively (as shown in figure 4.14).
Now, there is decrease in demand. As a result, demand curve
shifts to the left to D,D, which creates excess supply. Supply
also decreases and thus, supply curve also shifts to the left
to S,S1, which creates excess demand. Since the percentage
decrease in demand is equal to the percentage decrease in
supply, there is neither excess supply nor excess demand in Price
the market. Therefore, at new equilibrium e price remains
unchanged at Op. However, equilibrium quantity decreases
from Oq to Oq1
TABLE 4.7: Efect of simultaneous leftward shifts D

Price Original equilibrium New equilibrium

Demand Supply Demand Supply
100 200 50 100 Quantity
2 150 150 75 75
1 200 100 100 50 Figure 4.14

Table 4.7 shows that the market is in equilibrium when price is 2 per unit because at this price demand equals
supply. For price to remain unchanged, in the table there is 50% decrease in both demand and supply. Thercfoe.
new equilibrium price remains unchanged at 2 per unit.
Demand curve shifts leftward and supply curve shifts rightward
(i.e., decrease in demand and increase in supply)
1. The percentagedecrease in demand is equal to the percentage increase in supply
Equilibrium price will fall. The price will fall because of excess supply in the market. su
Market for good X is in equilibrium at point e where the market demand curve DD and the marker
curve SS intersect so that Op and Oq are the equilibrium price and quantity respectively. NoW
(say, decrease in
number ber oof
demand curve shifts leftward to D,D, due to decrease in demand for some reason
consumers) and the market supply curve shifts rightward to S,S, due to increase in supply for some k
technological progress).
 Ommand

Forms of Market and Price 257

UNT
4
Determination
quilibriunm is at point c1.
Op: but the The cquilibrium price
equilibrium
at Oq as shown in Figure 4.15. quantity remains
Decease in demand
will create
increase in supply will also create an excess supply
( in che narket at the equilibrium price an Op.excess
Thus,supply
total Price
the market at price Op
suppl;, there
is ab. In response to
his cxN will be competition among the firms.
hirms wil reduce the price so
that they can sell their
quantity. Thus, price will tend to
fall. Fall in leads
in quantity demanded and decrease in price S
These changes continue till the new quantity
sIgpliod
equilibrium
Op): Since the percentage decrease in demand is equalprice Quantity
percenage increase in
the supply, therefore, the equilibrium
zuantiv will remain unchanged at Oq. Figure 4.15

2The percentage decrease in demand is greater than

dhe percentage increase in supply
Equilibrium price will fall. The price will fall because of excess D

sppr in the market,

D,
laket for good Xis in equilibrium at point 'e where the market
mand curve DD and the market supply curve SS intersect Price
that Op and Oq are the equilibrium price and quantity
ectively. Now, there is decrease in demand and thus, the
maket demand curve shifts leftward to D,D, leading to excess P:

sIDply. Also, there is increase in supply leading to excess supply

Bd thus, the market supply curve shifts rightward to S,S,. The D,
EW Equilibrium is at point ej. The equilibrium price falls from
Ohto Op1 Quantity
Snce the percentage decrease in demand is greater than the
gICentage increase in supply, therefore, the equilibrium quantity Figure 4.16
iso decreases from Oq to Oq1
3. The percentage decrease in demand is less than
tie percentage increase in supply D
qulibrium price will fall. The price will fall because of excess D,
supply in the market.
Marker for good Xis in equilibrium at point e where the market
mand curve DD and the market supply curve SS intersect so that
Price
Op and Oq are the equilibrium price and quantity respectively.
Now, there is decrease in demand and thus, the market demand P
urve shifts lefrward to D,D, leading to excess supply. Also, there
market
ncTease in supply leading to exCess supply and thus, the S D,
Py curve shifts righrward to S,S,. The new equilibrium is at
Point e.The equilibrium price falls from Op to Op1-
Since the decrease in demand is less than the Quantity
percentage
PetINCrceentasesage increase in supply, therefore, the equilibriumquantity Figure 4.17
from Oq to Oq1-
 258
Microeconomics X1- by Subhash Dey
Demand curve shifts rightward and supply curve shifts leftward (i.e., increase
in demand and decrease in supply)
1. The percentage increase in demand is equal to the percentage decrease in supply
Equilibrium price will rise. The price will rise because of excess Y^
demand in the market. D.

Market for good X is in cquilibrium at point 'e' where the market

demand curve DD and the market supply curve SS intersect so that
Op and Oq are thc cquilibrium price and quantity respectively. Price
Now, there is increase in demand which causes excess demand in
che market. Therefore, the market demand curve shifts rightward
to D,D,. Also, the market supply decrcases which also causesexcess
demand. Therefore, market supply curve shifts leftward to S,S1. D
The new cquilibriunm is at cË. The cquilibrium price rises from Op
to Op, but the cquilibrium quantity remains unchanged at Oq Quantity
because percentage increase in demand is equal to the percentage
decrease in supply. Figure 4.18

2. The percentage increase in demand is greater than

the percentage decrease in supply
Equilibrium price will rise. The price will rise because of excess D,
demand in the market. D
Market for good X is in equilibrium at point 'e where the market
demand curve DD and the market supply curve SS intersect so that Price
Op and Oq are the equilibrium price and quantity respectively. P.
Now, there is increase in demand which causes excess demand in
the market. Therefore, the market demand curve shifts rightward p

to D,D,. Also, the market supply decreases which also causes to

excess demand. Therefore, market supply curve shifts leftward
S,S,. The new equilibrium is at point ej. The equilibrium price q 41 X
rises from Op to Op1. Quantity
Since percentage increase in demand is greater than the percentage
decrease in supply, therefore, the equilibrium quantity increases Figure 4.19
from Oq to Oq1
the
3. The percentage increase in demand is less than
percentage decrease in supply D,
D
Equilibrium price will rise. The price will rise because of excess
demand in the market.
Market for good X is in equilibrium at e where the market demand Price P
curve DD and the market supply curve SS intersect so that Op and Oq
are the equilibrium price and quantity espectively. Now, there is increase
in demand which causes excess demand in the market. Therefore, the
market demand curve shifts ightward to D,D,. Also, the market s;
supply decreases which also causes excess demand. Therefore, market
supply curve shifts leftward to SjS. The new equilibrium is at point
Quantity
ej. The equilibrium price rises from Op to Op,. Since percentage
increase in demand is less than the percentage decrease in supply, Figure 4.20
therefore, the equilibrium quantity decreases from Oq to Oq:.
UNIT4: Price Determination
of perfect
features

c o m p e t i t i o n

can be competition
defined either in and their
259

tect
offthese
esult
features.
In terms of its features, a pertect
terms of its implications
characteristic
features, or in terms of the unique end
sellers, the firms produce competition is a market form
firms are free to enter or exit homogeneous where are large number of buyers and
the market. products, the buyers and there have
. In termns of
the
end unique sellers perfect knowledge and the
result of these
firm cannot influence
individual
features, a
Market for agricultural goods like prevailing market perfectly
the Competitive market is one in which an
Aample:

wheat and rice. price of the product on its own.

following are the main
The features of Perfect
1,Large number of buyers and sellers Competition:
> The feature large number of buyers in
competitive market signifies that the number a perfectly
so large that any individual of buyers is
tofuence the market price onbuyer is not in a
position to
its own. The proportion
denmand of an individual buyer in the of
of the good is insignificant total market demand
buys more or less, market (negligible). If the single buyer
price is not
aker. He can buy as many units heaffected. He isa price
wishes at the given
market price. Thus, under perfect competition
curve is a horizontal line (perfectly elastic demand). demand
Quantity Demanded

The feature 'large number of sellers (firms)' in a Figure 4.21

perfectly
competitive market signifies that the number of sellers Demand Curve under Perfect Competition
is so large that any individual seller cannot influence Perfectly Elastic Demand Curve (e, = o)

the market price on its own. It is because the individual

seller's share in the total market supply is negligible/insignificant. If an individual firm supplies more or
les, market price is not affected. The seller has no option but to accept the market determined price. It
makes the seller a 'price-taker. The firm can sell more quantity of output at the same price.
2Homogeneous Products
Homogeneous products' means that the product of cach firm in aperfecty competitive market is identical, ie.
de product of one firm cannot be distinguished from the product of any other frm. So, abuyer can choose to
buy from any firm in the market, and he gets the same product.
they will pay
Ine implication of this feature is that since the buyers treat the products of all firms as identical
attempt by a firm to sell
ue same price for the products of all the firms in the industry. On the other hand, an a uniform price for che
ensures
S product at a higher price will fail. Thus, 'homogeneous products feature
products of all the frms in the industry.
3. Perfect knowledge about markets for outputs and inputs
In a perfectly competitive market all the buyers and sellers have complete information (full knowledge)
well as the market. There is no ignorance factor
about the price, quality etc. about the product, as firm can charge a price higher than the price
that no
Operating in the market. The implication is pay the price higher than the market price.Thus, a
the market and no buyer is willing to
determined by
uniform price prevails in the market. about the inputs market. This implies that each firm has an equal
All the firms have perfect knowledge technology. Cost structure of
all the firms is the same.
the inputs used in the
access to the technology and perfect knowledge about the market price) and all the firms have a
Since a market (due to
uniform uniform price prevails in the
to the inputs
markets), therefore, all
the firms earn uniform profits.
cOst sTucture (due to equal access
 Microeconomics XI- by Subhash Dey

260
barriers a fitrm faces
Freedom of entry and exit of fims means that there are no cost or
4 competition expenditure, government
a cxit ot tirms under pertevt restrictions, huge capital
Frevdom of enn rights, legal
(in the fom of patent
to enter or exit che marker normal profit.
rules labr laws e ) .
in the long run each tirm earns only
The impliaton ot this
is that
poits and losses are
possible.
profits (supernormal profits).
shorr run. abnormal abnormal
In the existing firms are
earning profits.
Nup in the short run, industry as they are attracted by the excess
New tirms enter the industry's output/market supply
increases.
As new ìrms enter, the to tall.
This causCS market prie
pr the lower market price, profits reduce. in the long run. Since all firms in the
As tirms to normal levels marker.
tillpotits reduce have incentive to enter
the
This paNT oninues no nore firms will exit (as
eam ontl nomal protit
in the long run, losses in the short run. Some firms will
carning
the existing firms are
Ihe oppsite vurs it
the idustrv.
Thisraduwes market supply/industry's output.
and hence reduction in losses.
rise,
to normal profit
This causes market price and the remaining firms earn only in
till losses get wiped out
This pves continues
prevailine
che long run. will always earn normal profit in the long run at the
each firm
Thus, with free entry and exit,
market prie.

Extra Shots
Firms
Competition with Free Entry and Exit of
Market Equilibrium under Perfect that each firm wil earn normal profit at the prevailing market
price.
of firms' assumption is
The imphication of the 'ree entry and exit production.
In equihibrium, no irm earns supernormal profit or incurs loss by remaining in
cost of the firms.
will be equal to the minimum average
In other words, the equilibrium price
Po = min, AC
new firms will enter the market,
minimum average cost, the firms will earn supernormal profit. Therefore, firms in
supernormal profit, and this willcontinue till all the
At prices greater than the
profits. It will lead to reduction in the
being attracted by the supernormal
No more fims will have incentive to enter.
the market will be earning normal profit. will exit the market. It willlead
prices below the minimum average cost, firms will incur loss from production. Some firms
Similariy, at
wiped out and all the firms earn normal profits.
to reduction in losses. This will continue till losses are
each firm will earn normal Y
At the price level equal to the minimum average cost, existing
the market. Also, the
profit so that no new firm will be attracted to enter D
firms will not leave the market since they are not incurring any loss by producing Price
at this point. So, this price will prevail in the market.
by the market demand
In equilibrium, the quantity supplied will be determined
at that price so that they are equal. Po
Graphically, this is shown in Figure 4.24, where the market will be in equilibrium min. AC
such
at point Eat which the demand curve DD intersects the 'P, = min, AC' line
that equilibrium price is Po and the equilibrium quantity is 'go'. D

At 'Po =min. AC each firm supplies same amount of output, say 'qsf. Therefore, the
equilibrium number of firms in the market is equal to the number of firms required
to supply 'o output at 'Po each in turn supplying 'qsf amount at that price.
The equilibrium number of firms, ng =
Quantity
9sf
 T4: FormsofMarket
) and Price
Determination 261

Conclusion

theimplication of freedom of entry and exit of firms under perfect competition' is that in the long run each
nearms only normal profit. Therefore, long run equilibrium price will be equal to the minimum average
(P= min. AC)

Namerical4

the demand curve of commodity Xin a

Sappose

Qn =700 -p perfectly competitive market is given by:

There is free entry and exit of the firms producing commodity X. Assume the market consists of identical firms
producing commodity X. Let the supply curve of single firm be explained as:
Qf = 8+3p for p >20
=0 for 0 <p< 20
What is the significance of p = 20?
6) At what price will the market for Xbe iin equilibrium? State the reason for your answer.
A Calculate the equilibrium quantity and number of firms. (2marks)
Solution:
because otherwise they
(a) In the long run, the firms will never produce below price p = 20, i.e., minimum AC
willincur loss from production and will exit the market.
h) With free entry and exit of the firms, equilibrium price =minimum AC =20.
market demand, which is equal to
() At this price p =20, market will supply that quantity which is equal to the
700 - 20 = 680 units.
At p=20, each firm supplies gf= 8 +3(20) - 68 units
Therefore, number of firms = 680/68 = 10

Do it yourself 4
perfectly competitive market is given by:
Suppose the demand curve of wheat in a
<p< 200
QD = 200-p for0
and Q =0 for p > 200 of identical farmers
producing wheat. Assume the market consists
of the farmers
Inere is free entry and exit
producing wheat.
farmers be explained as:
et the supply curve of single
Qsr =10 +p for p > 20
and Qsr = 0 for 0<p < 20
20?
(a) What is the significance of p = Xbe in equilibrium? State the reason for your answer.
(NCERT) (6 marks)
(b) At what price will the market for and number of farmers.
() Calculate the equilibrium quantity
lAns. (b) 720 (c) 6]
 Microeconomics XI by Subhash Dey
262

Numerical 5
given by:
Suppase che demand and supply curvesof a commodity X in a perfectly competitive market are
Qo - 700- p: Qs - 500 + 3p for p > 15
and Qs = 0for 0<p< 15
Assume che market consists of identical firms.
(a) ldentify the reason behind the market supply of commodity X being zero at any price less than 15.
(b) Atwhat price will the market for Xbe in equilibrium?
(c) Atequilibrium, what quantity of Xwill be produced? (NCERT) (6 marks)
Soletion:
(a) (pFor>amin.
perfecty competitive firm. price must be greater than or equal tominimum average cost in the long nun
AC). A firm will not produce at an output level wherein the market price is lower than the minim
AC. Therefore, the firms here will never produce below price p =15, i.e., minimum average cost because
otherwise they will incur loss from production.
(b) We know that the cquilibrium price and quantity are achieved at:
QD = Qs
700 - p = 500 + 3p
() 4p = ( 200
Therefore, Equilibrium Price p =50
(c) Equilibrium Quantity q = 500 50 = 650 units

Do it yourself 5

Suppose the demand and supply curves of a Commodity-X is given by the following two equations simultaneously:
Q = 200-p, Qs = 50 + 2p for p> 15
and Qs = 0for 0 <p < 15
) ldentify the rcason behind the market supply of commodity X being zero at any price less than 15.
(i) Find the equilibrium price and equilibrium quantity. (6 marks)
[Ans. (ii) }15; 150 units]

T Key Terms
Equilibrium-Asituation where the plans of all consumers and firms in the market match and the market clears.
Market equilibrium-Aperfectly competitive market is in equilibrium when market demand equals market supply.
Equilibrium price-The price at which market demand equals market supply is called
equilibrium price.
Equilibrium quantity-The quantity bought and sold at equilibrium price is called equilibrium
Excess demand-A situation when quantity demanded is more than quantity
quantity.
supplied at the prevailing market p
Excess supply-A situation when quantity supplied is more than quantity demanded
at the prevailing market prhe
Price Ceiling-Imposition of upper limit on the price of a good
by the government.
Price floor-Imposition of a lower limit on the price of a
good by government.
Homogeneous products-'Homogeneous products' means that the product of
each firm is identical.
 M i c r o e c o n o m i c s XÍ- by Subhash Dey
272
Competition
Monopolistic
4.2 Monopoly and
Monopoly called monopoly.
Amarket structure in which there is asingle eller ie
Example lndian Railways
The following are the main features of monopoly
1. Single seller of a commodity
mono means single and 'pol means seller 'monopolist'. INOI¢N RAILWAYS
There is a single producer of a commodity, called disappears.
Therefore the difterence berween firm and industry of the
The monopol firm (monopolis) has full control over supply
commoditv
2. No cdose substitutes monopoly firm has no fear of
The produKt ofered by a monopolist has no close substitute. So, the competrition
from new or existing rivals.

Top Tip ati es

advertising. sales promotion, etc.) are negligible as product is unique in its
onoer monopoly market selling costs (e.g.

3. Barriers/Restrictions to entry
market for any new firm. Such restriction may
Under monopoly form of market there are barriers toentry in the
be due to legislative reasons, government license, patent rights, etc. (super normal profits
Duc to this feature the monopolist can manipulate the market and carns abnormal profits
in the long run. For example traditionally production of many defence goods is monopoly of the government.

Top Tip
The monopolist earns abnormal profits (super normal profits) in the long run. However in the short run the monopolist
may earn supernormal profits or normal profits, and even incur loSs.

KNOU

Reasons for emergence of monopoly

Suficient resricúons/barriers prevent new firms to enter the market and selling the commodity. Sources of restricted enty nde
monopoly, may be:
(i) Government license: Before a firm can enter an industry, it needs to take license from the government. Licenstiy
required to ensure the minimum standards of competency. By not granting licenses to new frms, the government as
assure that only one firm operates in the market.
(i) Patents, trademarks and copyrights: Certain big private companies are engaged in research and developmentrights,
ac rade
At times, they conme up with new products or new technologies. As a reward, government grants them patent
marks and copyrights.
needed ina
(iüi) Ownership of scarce resources: Monopoly also arises due to sole ownership of crucial scarce resources
particular industry by the monopoly firm.
 of Market
and Prlee Determlnatlon 273
F o r m s

UNIT
4:
Pricc Discrimination

osclling the c good a dillerent pties to different consumcrs. For example, a doctor may cha8
And mote lees from othes. Similarly, the
the poor
p t e stron) doucstic and
cletricity distribution companics mig
dilleren
commerial electricity users.
there market, is only asingle firm (called monopolist) that
wositlon ocxcrcise price disCTimination; it reles to offering of the samecontrols the market.
at rwo A monopolist
priCesis
monopol
commodity different
na
consumcIs.

Monopolist
is called a'price-maker'
market, there is asingle lirm that conuols the market.
monopoly

im, the monopoly firm (monopoliso) decides

rival
Price
na of any firnn is called tlhe price
product. Hence,
ofits maker. D
the
pric
monopolist is the only producer, he can always exercise
the
intfluencc over market price by changing the supply. For P1
if the monopolist brings a smaller quantity of the
an
wjnih
suppose

Aanple.
into the market for sale it will be able to sell at a higher P
monopolist a price maker.'
mmodiry

makes
lh monopolist's decision to scll a larger quantity is possible only
a
Howev,

price. He cannot sell more quantity at a higher price. When q1

lower
will be higher,
the buyers will demand less quantity. Thercfore, Quantityy Demanded

curveis downward
sloping. Since there are no close substitutes
kenmand
monopoly frrm's product,
therefore, its demand is inelastic (ep <1) Fig.4.22 Downward slopíng inelastic
demand curve under monopoly
rthe does not affect quantity demanded too much.
achange in price the monopoly firm faces a downward sloping
have no choice other than buying the product. Hence,
haause

Consumers

inclastic demand curve.

demand curye
AThe monopoly firm faces the market commodity sold. The monopoly firm's decision
brthe monopoly firm, the price depends on the quantity of the the monopoly firm brings asmaller quantity
nl alarger quantity is possible only at alower price. Conversely, if
to sell a higher price. Thus, for the monopoly firm,
at
dthe commodity into the market for sale it will be able different quantities supplied. This idea is reflected
available for
natket demand curve expresses the price that is
faces the market demand curve.
in the statement that the monopoly firm

Extra Shots
Some critical views about monopoly the
in the long run. On the other hand, consumers get a lesser quantity of
even
he monopoly firm earns abnormal profits consumed. However, varying views have been
expressed by economists
each unit in the
uput and have to pay more price
for
argued that monopoly of the kind described above cannot exist that
it can be because of the fact
the question of monopoly. First,
ng each other. This in turn is
for
all commodities are, in a sense, substitutes
l l n i s is because income in the hands of consumers.
al the firms commodities compete to obtain the the economy is
producing without competition. This is because
is never the commodity
Anoher argument is that even afirmin a pure monopoly situation up, which are close substitutes for
never stationary. New commodities using newtechnologies are always coming short run, the
competition in the long run. Even in the above.
produced by the monopoly Arm. Hence, the monopoly firm alwaysunable has we have described
to behave in the manner
hreat of firm is
competition is always present and the monopoly firms earn large profits,
society. Since monopoly
Stl another monopolies may be beneficial to
the small perfectly competitive firm
view argues that the existence of something which more
hey possess sufficient research and development work,
quality goods. Also, because of the
|is unable to funds to take up able to produce
better equilibrium level
do. By doing such research, monopoly firms are marginal cost may be so much lower that the
|modern technologies
ol
their
which such firms are able to use, in the case of pertect competition.
output, where MC MR, may be even larger than that
 Microeconomics X1-by Subhash Dev

274

of firms is large,
there is freedom of
Monopolistic Competition where the number
competition is a
market structure homogeneous.
Monopolistic produced by them are not
firms, but the goods
entry and exit to monopolisticcompetition are as follows:
Main fearures of
firms/sellers Each firm acts iindependently and has
1.Large number of selling loscly related but differentiated
products.
over price.
Large numbet of sellers which leads to limited degree of
monopoly
limited share of the market
products/Productdiferentiation narne, color. size etc.
2. Differentiated diflerentiated on the basis of brand toothnacte
Thesee
competition, products are Pepsodent, Babuletc. in
Under monopolistic
dose substiute of cach other. lor example, Colgate, some monopoly in the mot
differentiatcd prducs are producer, that producer enjoys
agroup of buyers prefer the product of a particularbrand or becomnes loyal to a particular brand and is, therefore,
taste for a particular of its product
The consumers develop a Thus, an individual firm has intluence over the price firm.
willing to pay ahigher price for it. there is some clement of monopoly
enjoyed by a
in such a market
Cxtent. In other words,

Top Tip selling costs are required to be

incurrea.
products are differentiated. Therefore, huge
Under monopolistic competition,
attract consumers.

3. Freedom of entry and exit to firms

entry or exit to firms. As a result, firms earn ol
Under monopolistic competition, there exist no barriers to
normal profits in the long run.
loss-making firms can exit the
New firms have freedom to enter the market with their products; and the existing
market. This ensures that a firm earns just normal profits in the long-run.
If the Erms are earning excess profits in the short-rün, this willattract new firms to start producing the
commodity (ie, entryinto the market).As output of the commodity expands, prices in the market wil
tend to fall till profits become zero and there is now no attraction for new firms toenter. Now, the firms
earn just normal profits.
Conversely, if firms are facing losses in the short-run, some firms would stop produing the commodiry
(ie., exit from the market) and the fall in total quantity produced will lead to a higher price till firms
begin to earn normal profits.
4. Demand curve of a firms product under monopolistic Price
competition is downward sloping and elastic.
Demand curve of a firm's product under monopolistic competition is
downward sloping because more quantity can be sold only at a lower price.
Demand for a firm's product is elastic since there are many close
available for the firm's product. If the firm raises the price of itssubstitutes
many consumers will shift to the other brand(s) with lower product, D

result, demand for this price(s). As a

firm's product willdecrease significantly. It makes the X
Quantity demanded
demand highly price-elastic.
Fig. 4.23 Downward sloping elastic demand
competition
Curve under monopolistic

Top Tips
" The demand curve in
this market substitutesmonopolistic competitive market is more elastic as compared to
" Under monopolistic produced by rival firm are available. monopoly market
competition,
firm's product. However, it is not demand curve is elastic because there are manyclose
horizontal (perfectly elastic) as in the substitutes avalla
case with perfect
competition.
 275
Price Determination
UNIT 4: Forms of Market and

COMPARISON OF DIFFERENT MARKET FORMS

Perfect Monopoly Monopolistic

Basis/ Criteria
Competition
Competition
consists of There exists a single seller Monopolistic competiion
1. Number of firms/ Perfect competition
sellers/firms. of the commoditiy in the consistsof large number of
sellers large number of sellers but there is lesser nunmber
monopoly market.
of sellers in monopolistic
compctition ascompared to
the number of scllers in perfect
competition.
There is freedom of entry and
2. Mobility of firms Freedom to frms to cnter Sufficient restrictions prevent cxit to firms. New hrms have
or to leave the industrv, The new firms to cnter the market.
freedom to enter the market
implication is that frms get Sources of restricted entry under
with their products; and the
just the normal profits (i.e., monopoly are: () Governmcnt
firms can
minimum necessary profts to licence (ii) Patents, Trademarksexistingloss-making ensures
the market. This
carry on business) in the and Copyrights(ii) Ownership exit
that a firm carns just normal
long-run. Therefore, price is of scarce resources. Therefore,
profits (i.e., zero economic
equal to the minimum average the monopoly firm carns
cost in the long run. abnormal profits in the long profits) in the long-run.
(p = min. AC) run.
In monopolistic competition
3. Nature of The products of all the firms inThere is unique product in
the industry are homogeneous monopoly market. There products are differentiated on
products the basis of brand, size, colour
(or undifferentiated). Buyers is a single producer of that
will pay the same price for the particular product. Therefore, etc.
products of all the firms in the there are no substitute for the Buyers treat the products
produced by different irms
industry. No firm can charge a monopoly firm's product.
|higherprice. A uniform price different.
prevails in the market.
An individual firm is referred |A monopolist is a price-makerConsumers develop a taste for a
4. Firm's influence particular brand over time and are
because he can influence the
over price to as price taker since it cannot price for it.
infuence the market price market price of the product bywilling to pay higher
some influence
has
determined at the industry changing the quantity of the Thus, a firm
product. over the price of its product.
level.
monopoly frm is the Firms under monopolistic
5. Competition Aperfectly competitive firm is Since aproducer of aparticular competition compete with cach
able to sell any quantity that single other on the basis of product
it wishes to sell at the given commodity, he faces no differentiation. Products of one
Therefore, it doescompetition. For this situation
market price. sufficient firm are associated with some
otherto persist over time,
not need to compete with restrictions are required to brand name and compete with
firms to obtain a market for products of other firms on the
do not find be in place to prevent any
itsproduce. We other firm from entering the basis of packaging, advertising
individual farmers competing efforts.
sell a market and to start selling the and other selling
among themselves to
larger amount of crop. commodity.
Under monopoly market Under monopolistic
6. Selling costs Under perfect competition, competition, products are
homogeneous in selling cost are negligible as differentiated. Therefore,huge
products are product is unique in its nature.
there is no required to be
nature therefore
selling costs are
|selling cost required. incurred to attract consumers.