TOPIC: PERFECT COMPETITION, MONOPOLY, MONOPOLISTIC

COMPETITION, OLIGOPOLY AND BARRIER TO ENTRY

Plan:
1. Introduction (managerial economics and decision taking)
2. Market structure (condition, pricing, entry/exit etc)
3. Types
a) Perfect competition
b) Monopoly
c) Monopolistic competition
d)Oligopoly
4. Barriers to entry
5. Conclusion

I.INTRODUCTION

All Organization has growth as their main objectives and this objective is measure by
profitability rate and the Earning per share of shareholders (Brickley,2001). This means
therefore that profit maximization and shareholder wealth maximization and the two
main priorities of businesses. To be able to achieve these goals managers need to
analyze specific business environment and use the information that they have relating to
demand and costs in order to determine strategy regarding price and output, and other variables.
Managers must also be aware of the type of market structure, in which they operate, since this
has important implications for strategy; this applies both to short-run decision-making and to
long-run decisions on changing capacity or entering new markets.

II. DEFINITIONS:
A) Market
A market can be defined as a group of economic agents, usually firms and individuals, who
interact with each other in a buyer–seller relationship, e.g Dress market, beer market. Each
market have it different boundaries in terms of the number and types of product involved.
B) Market structure and characteristics
This is the categorization of the market in terms of their basic characteristics like prices, number,
and distribution of sellers. However the four main characteristics of a market structures are:

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 1. The number and size of distribution sellers: The ability of an individual firm to affect the
price and total amount of a supplied to a market is related to the number of firms
providing that product. If there are many suppliers the influence of one particular
becomes very insignificant.
2. Number and size distribution of buyers: This is where there are many small purchases of
a product, all buyers are likely to pay about the same price, but if there is only one
purchaser, that buyer is in the position to demand lower prices from sellers
3. Product differentiation: This refers to the degree that output of one firm differs from that
of the other firms in the market. Where products are undifferentiated, decisions to buy are
made strictly on the basis of the price.
4. Condition of entry and exit: Ease of entry and exit are crucial determinant of the nature of
the market in the long run. When it is extremely difficult for new firms to enter, existing
firm will have much greater freedom in making pricing and output decision than if they
must be concerned about new entrants who are attracted by profit.

III. TYPES OF MARKET STRUCTURE

Managerial Economists usually classify market structures into four main types: perfect
competition, monopoly, monopolistic competition and oligopoly. These types of market structure
are different according to the following characteristics: number of sellers, type of product,
barriers to entry, power to affect different markets price and the extent and type of non-price
competition.
The table below is the summary of the characteristics of market structure
Market No. of sellers Type of Barriers to Power to Non price
Structure product enter affect competition
Perfect Many standardized None None None
Competition
Monopoly One Single product Very high high Advertising
Monopolistic Many Differentiated Low Low Advertising &
product
differentiation
Oligopoly Few Standardized High Medium Heavy
or advertising
differentiated and product
differentiation
Source: Author

However, there exist Relationships between structure, conduct and performance. Managerial

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Economists tend to relate conduct and performance in different markets to market structure. In
this context, conduct refers to strategic behavior of, in particular in terms of price and output
determination, but also in terms of advertising, product differentiation and practices regarding
entry and exit barriers.
Methodology of Analysis
For each type of market structure the necessary conditions for its existence are first explained. A
static, partial equilibrium analysis then follows, usually assuming certainty or perfect
information. This analysis is initially graphical. The analysis then moves on to an algebraic
approach involving optimization techniques.

A) PERFECT COMPETITION
This form of market structure is not necessarily ‘perfect’ in an economic sense, i.e. resulting in
an optimal allocation of resources, although this may happen. It simply represents a situation
where competition is at a maximum; it is therefore sometimes referred to as pure competition or
atomistic competition.
a) CONDITIONS
There are five main conditions for perfect competition to exist:
1 Many buyers and sellers. Each of these must buy or sell such a small proportion of the total
market output that none is able to have any influence over the market price.
2 Homogeneous products. Each firm must be producing an identical product, for example
premium unleaded petrol or skimmed milk.
3 Free entry and exit from the market. This means that there are no barriers to entry or exit that
give incumbent firms an advantage over potential competitors who are considering entering the
industry. These barriers, which can represent either demand or cost advantages.
4 Perfect knowledge. Both firms and consumers must possess all relevant market information
regarding production and prices.
5 Zero transportation costs. This means that it does not cost anything for firms to bring products
to the market or for consumers to go to the market. Under the above conditions, firms in the
market will be price-takers; there will be one, and only one, market price, meaning that the
product will sell at the same price in all locations.

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b) CHARACTERISTICS OF PERFECT COMPETITION
The following table summarizes the characteristics of the perfect competition
Number and size distribution of sellers
Number and size distribution of buyers
Product differentiation
Condition of entry and exit
Source :Author
Many small sellers, no seller is able to exert a significant
influence over price
Many small buyers ,no buyers is able to exert a significant
influence over price
Product undifferentiated, decision to buy are made on the
basis of the price
Easy entry and exit, resources are easily transferable among
industries

c) THE EQUILIBRIUM PRICE IN PERFECT COMPETITION

In a perfect competition market a single entity cannot affect the price, the aggregate effect of the
participants in the market is important in price determination. However the interaction of demand
and supply determines the equilibrium price and the quantity to be exchanged. The equilibrium
situation can be analyse by a short or long run scenarios. With a short situation the equilibrium is
determine by the demand and supply functions in the industry as a whole. The firms in
the industry, as price-takers, then have to determine what output they will supply at
that price. The firms in the perfect competition faces a horizontal demand curve at the market
price for its product and it can be seen on the firm’s decision on the market demand. We can
determine the equilibrium price and output both algebraically or graphically.

However, in determining the profit, whether the situation is short or long run we
assumed that opportunity costs are included in the measurement of unit costs, a s
s u c h if the market price is equal to average total cost (ATC) i.e P = ATC, the firm will just
make normal profit. This is defined as the profit that a firm must make in order for it
to remain in its current business. If a firm cannot cover all its opportunity costs,
meaning that P < ATC, then it should leave the industry in the long run since the
owners of the business can use the resources more profitably elsewhere. If P < AVC
then the firm should shut down in the short run since it cannot even cover its
variable costs, let alone make any contribution to fixed costs.

d) EQUILIBRIUM OUTPUT.
Beside the equilibrium price a manager must be able to determine the quantity of good
he will produce and sell in order to optimize his returns. Because price is determine in
the market and the product is homogenous, the only decision left to the manager of a

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firm in a perfectly competitive market is how much output to produce. The profit
maximizing output is determine where the extra revenue generated by selling the last
unit(the Market price)equals the marginal cost of producing that unit. This condition is
made by increasing the rate of production. where the price equal marginal cost(Mc).If
the firm increase output beyond this point the additional revenue is less than the extra
cost as seen by the marginal cost curve. But if production is reduce below the loss in
revenue is greater than the reduction in cost and as such the profit decreases.

we can see that the firm’s short-run supply curve will be that part of its marginal cost
curve that lies above the average variable cost (AVC) curve, and if the price falls below
the minimum level of AVC the firm will shut down production, since it will not be
able to cover its variable costs let alone make any contribution to fixed costs.

B. MONOPOLY
Monopoly literally means a single seller in an industry. However, it is preferable to
define a monopoly as being a firm that has the power to earn supernormal profit in
the long run. This ability depends on two

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 a) Conditions:
1 There must be a lack of substitutes for the product. This means that any existing
products are not very close in terms of their perceived functions and characteristics.
Electricity is a good example.
2 There must be barriers to entry or exit. These are important in the long run in
order to prevent firms entering the i nd us tr y and competing away the supernormal
profit.

b) BARRIERS TO ENTRY AND EXIT

These can be defined as factors that allow i n c u m b e n t firms to earn super- normal
profits in the long run by making it unprofitable for new firms to enter the i n d u s t r y .
It is useful to distinguish between structural and strategic barriers. Structural
barriers often referred to a s natural barriers and they occur because of factors
outside the firm’s control, mainly when an incumbent firm has natural cost or
marketing advantages, or is aided by government regulations. Strategic barriers
occur when an incumbent firm deliberately deters entry, using various restrictive
practices, some of which may be illegal.

ii) STRUCTURAL BARRIERS

There are six main types of structural barrier.

1. Control of essential resources. This often occurs for geographical reasons,
because of the concentration of such resources in certain areas. For example, oil, gas
and diamonds are only found in limited supplies and locations; certain areas are
very advantageous for the production of certain product like cotton in the north of
Cameroon. Specialist in certain domain like surgeons.

2. Economies of scale and scope. Economies of large scale means that the
minimum efficient scale (MES) will be large in the industry. In order for new firms to
compete in terms of cost they will have to enter on a large scale and this may be a
problem if the MES is large compared to market demand. The problem is that the
entry of another large firm in the industry would cause a substantial reduction in
the market price, thus reducing profitability. Of course the industry would no longer
be a monopoly in this situation, but the problem remains that market demand may
not be sufficient to support two firms in the industry if the MES is large and the cost

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 structure is high. This situation applies in particular to public utilities, like water
and electricity supply; such industries are, therefore, sometimes referred to as
n a t u r a l monopolies.

3. Marketing advantages of incumbents. Brand awareness and image are very

important in many industries, with consumers being unwilling to buy
unknown brands. This applies more to oligopolistic industries, like electrical and
electronic appliances, banking and other financial services, but may also relate to
industries like telecommunications. Such brand awareness can take time and a heavy
cost to develop.

4. Financial barriers. New firms without a track record find it more difficult and
more costly to raise money, because of the greater risk they impose on the lender.
This disadvantage does not apply to the same extent to existing firms who are
entering a new industry, although even here there are usually additional risks.

5. Information costs. In order for a new firm to enter an industry, or an

existing firm to enter a new industry, much market research needs to be carried
out to investigate the potential profitability of such entry. This again imposes a cost.

6. Government regulations. Patent laws have already been mentioned as a reason

for blocking the entry of new firms. They are particularly important in an industry
like the pharmaceutical industry, where it takes a long time to get approval to use a
product after it has originally been developed. Many governments also deliberately
create monopolies through a licensing system. Thus public utilities and postal
services in many countries operate as legally protected monopolies, with only one
firm being allowed to supply the market.

ii) STRATEGIC BARRIERS

It may be profitable for monopolists to employ strategies that deter entry if such strategies
change the expectations of the potential entrants regarding the nature of the market after they

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have entered. The following strategies to deter entry may be used:
- Limit pricing.
- Predatory pricing
- Excess capacity.
- Heavy advertising
These practices will not be possible if the market is contestable. The concept of contestable
markets was developed by Baumol, Panzar and Willig .The following conditions are necessary
for a market to be contestable:

1. There are an unlimited number of potential firms that can produce a homogeneous product,
with identical technology.
2. Consumers respond quickly to price changes.
3. Incumbent firms cannot respond quickly to entry by reducing price.
4. Entry into the market does not involve any sunk costs.

Under such conditions a monopolist cannot raise price above the level of a perfectly
competitive market. The result would be that a firm could enter on a hit-and-run basis,
by undercutting the incumbent, and exiting quickly if the incumbent retaliates.

c) EQUILIBRIUM PRICE AND OUTPUT UNDER MONOPOLY

The equilibrium can be determine either graphically or algebraically. The producer under
monopoly is called monopolist. If the monopolist wants to sell more, he/she can reduce the price
of a product. On the other hand, if he/she is willing to sell less, he/she can increase the price.

As we know, there is no difference between organization and industry under monopoly.

Accordingly, the demand curve of the organization constitutes the demand curve of the entire
industry. The demand curve of the monopolist is Average Revenue (AR), which slopes
downward. The main aim of monopolist is to earn maximum profit as of a producer in perfect
competition.

Unlike perfect competition, the equilibrium, under monopoly, is attained at the point where profit
is maximum that is where MR=MC. Therefore, the monopolist will go on producing additional
units of output as long as MR is greater than MC, to earn maximum profit

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 In the figure above, if output is increased beyond OQ, MR will be less than MC. Thus, if
additional units are produced, the organization will incur loss. At equilibrium point, total profits
earned are equal to shaded area ABEC. E is the equilibrium point at which MR=MC with
quantity as OQ.
In the case of monopoly the firm and the industry are one and the same thing, and
therefore only one graph needs to be drawn. The graph in Figure above shows a
short-run equilibrium situation, but the same will apply in the long run since
barriers to entry will prevent new firms from entering. The only difference is that
the relevant cost curves would be long-run, as opposed to short-run, cost curves
(LMC and LAC instead of SMC and SAC). It should be noted that there is no supply
curve in this case. This is because a supply curve shows the quantities that
producers will put onto the market at different prices, thus assuming that firms
are price-takers. A monopoly on the other hand is a price-maker. It should be
noted that there is a two-stage procedure involved in the analysis, the first stage
examining profit maximization and MC and MR, with the second stage examining
the size of the profit and AC and AR.

Algebraically: Suppose demand function for monopoly is Q = 200-0.4Q

Price function is P= 1000-10Q
Cost function is TC= 100 + 40Q + Q2
Maximum profit is achieved where MR=MC
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To find MR, TR is derived.
TR= (1000-10Q) Q = 1000Q-10Q2
MR = ∆TR/∆Q= 1000 – 20Q
MC = ∆TC/∆Q = 40 + 2Q
MR = MC
1000 – 20Q = 40 + 2Q
Q = 43.63 (44 approx.) = Profit Maximizing Output
Profit maximizing price = 1000 – 20*44 = 120
Total maximum profit= TR-TC= (1000Q – 10Q2) – (100+ 40Q+Q2)
At Q = 44
Total maximum profit = 20 844frs

C) MONOPOLISTICS COMPETITION
The monopolistic competition model is discussed in Samuelson and Marks (2010) uses the
same assumptions as the perfect competition model with one difference: The good sold may be
heterogeneous. This means that while all sellers in the market sell a similar good that serves the
same basic need of the consumer, some sellers can make slight variations in their version of the
good sold in the market. Variation in the product by sellers will only make sense if consumers
are responsive to these differences and are willing to pay a slightly higher price for the variation
they prefer.

However, Monopolistic competition is a type of imperfect competition such that many

producers sell products that are differentiated from one another (e.g. by branding or quality) and
hence are not perfect substitutes. In monopolistic competition, a firm takes the prices charged by
its rivals as given and ignores the impact of its own prices on the prices of other firms. Unlike
perfect competition, the firm maintains spare capacity. There are six characteristics of
monopolistic competition (MC):

 Product differentiation
 Many firms
 No entry and exit cost in the long run
 Independent decision making
 Same degree of market power
 Buyers and Sellers do not have perfect information (Imperfect Information

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1.Product differentiation
Monopolistic Competition (MC) firms sell products that have real or perceived non-
price differences. However, the differences are not so great as to eliminate other goods
as substitutes. Technically, the cross price elasticity of demand between goods in such a
market is positive. MC goods are best described as close but imperfect substitutes and
the goods perform the same basic functions but have differences in qualities such as
type, style, quality, reputation, appearance, and location that tend to distinguish them
from each other.
2.Many Firms:
There are many firms in each MC product group and many firms on the side lines
prepared to enter the market. A product group is a "collection of similar products’’ The
fact that there are "many firms" gives each MC firm the freedom to set prices without
engaging in strategic decision making regarding the prices of other firms and each
firm's actions have a negligible impact on the market. For example, a firm could cut
prices and increase sales without fear that its actions will prompt retaliatory responses
from competitors.
3.No entry and exit costs
In the long run there are no entry and exit costs. There are numerous firms waiting to
enter the market, each with their own "unique" product or in pursuit of positive profits.
Any firm unable to cover its costs can leave the market without incurring liquidation
costs. This assumption implies that there are low start up costs, no sunk costs and no
exit costs.
5.Independent decision making: Each MC firm independently sets the terms of
exchange for its product.The firm gives no consideration to what effect its decision
may have on competitors. The theory is that any action will have such a negligible
effect on the overall market demand that an MC firm can act without fear of prompting
heightened competition.
6.Market power MC firms have some degree of market power. Market power means
that the firm has control over the terms and conditions of exchange. An MC firm can
raise its prices without losing all its customers. The firm can also lower prices without
triggering a potentially ruinous price war with competitors. The source of an MC firm's

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 market power is not barriers to entry since they are low. Rather, an MC firm has market
power because it has relatively few competitors, those competitors do not engage in
strategic decision making and the firms sells differentiated product
7 Imperfect information
No sellers or buyers have complete market information, like market demand or market
supply

b)EQUILIBRIUM PRICE AND OUTPUT

Like the monopoly and perfect competitions, the equilibrium can be determine by use
of a graph and algebraically.

Graphical analysis of equilibrium

In the short run the equilibrium of the firm in monopolistic competition is very
similar to that of the monopolist. Profit is again maximized by producing the output
where MC = MR. Supernormal profit can be made, depending on the position of the
AC curve, because the number of firms in the industry is fixed. The only real
difference between the two situations is that relating to monopolistic competition,
the demand curve (and hence the MR curve) is flatter than the demand curve relating
to monopoly. This is because of the greater availability of substitutes.

Short-run equilibrium of the firm under monopolistic competition.

Price
MC

AC
PM

AC1

MR AR
b
QM Quantity

The firm maximizes its profits and produces a quantity where the firm's marginal revenue (MR)
is equal to its marginal cost (MC). The firm is able to collect a price based on the average

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 revenue (AR) curve. The difference between the firm's average revenue and average cost,
multiplied by the quantity sold (Qs), gives the total profit

price

LMC
LMC
LMC

PM LAC

LMR LAR

PM LAC

Long-run equilibrium of the firm under monopolistic competition.

The firm still produces where marginal cost and marginal revenue are equal; however, the
demand curve (and AR) has shifted as other firms entered the market and increased competition.
The firm no longer sells its goods above average cost and can no longer claim an economic profit

d) DISADVANTAGES OF MONOPOLISTICS
Socially undesirable aspects compared to perfect competition
 Selling costs: Producers under monopolistic competition are spending huge amounts on
advertising and publicity. Much of this expenditure is wasteful from the social point of
view. The producer can reduce the price of the product instead of spending on publicity.
 Excess Capacity: Under Imperfect competition, the installed capacity of every firm is
large, but not fully utilized. Total output is, therefore, less than the output which is
socially desirable. Since production capacity is not fully utilized, the resources lie idle.
Therefore, the production under monopolistic competition is below the full capacity
level.
 Unemployment: Idle capacity under monopolistic competition expenditure leads to
unemployment. In particular, unemployment of workers leads to poverty and misery in
the society. If idle capacity is fully used, the problem of unemployment can be solved to
some extent.
 Cross Transport: Under monopolistic competition expenditure is incurred on cross
transportation. If the goods are sold locally, wasteful expenditure on cross transport could
be avoided.
 Lack of Specialization: Under monopolistic competition, there is little scope for
specialization or standardization. Product differentiation practiced under this competition

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 leads to wasteful expenditure. It is argued that instead of producing too many similar
products, only a few standardized products may be produced. This would ensure better
allocation of resources and would promote economic welfare of the society.
 Inefficiency: Under perfect competition, an inefficient firm is thrown out of the industry.
But under monopolistic competition inefficient firms continue to survive

D.OLIGOPOLY
Unless a monopoly is allowed to exist due to a government license or protection from a strong
patent, markets have at least a few sellers. When a market has multiple sellers, at least some of
which provide a significant portion of sales and recognize (like the monopolist) that their
decisions on output volume will have an effect on market price, the arrangement is called an
oligopoly. It can also be consider as a market structure in which a small number of firms has the
large majority of market share,e.g Mtn, Orange and Nextel or Guiness and Braseries

Oligopolistic competition can give rise to a wide range of different outcomes. In some
situations, the firms may employ restrictive trade practices (collusion, market sharing etc.) to
raise prices and restrict production in much the same way as a monopoly. Where there is a
formal agreement for such collusion, this is known as a cartel. A primary example of such a
cartel is OPEC which has a profound influence on the international price of oil. Firms often
collude in an attempt to stabilize unstable markets, so as to reduce the risks inherent in these
markets for investment and product development. In other situations, competition between
sellers in an oligopoly can be fierce, with relatively low prices and high production. This could
lead to an efficient outcome approaching perfect competition. The competition in an oligopoly
can be greater when there are more firms in an industry than if, for example, the firms were only
regionally based and did not compete directly with each other. Profit maximization conditions

b) CHARACTERISTICS OF OLIGOPLOY
1. Profit: An oligopoly maximizes profits.
2. Ability to set price: Oligopolies are price setters rather than price takers.
3. Entry and exit: Barriers to entry are high. The most important barriers are government
licenses, economies of scale, patents, access to expensive and complex technology, and strategic
actions by incumbent firms designed to discourage or destroy nascent firms. Additional sources
of barriers to entry often result from government regulation favoring existing firms making it
difficult for new firms to enter the market.
4. Number of firms: "Few" – a "handful" of sellers. There are so few firms that the actions of one
firm can influence the actions of the other firms.
5. Long run profits: Oligopolies can retain long run abnormal profits. High barriers of entry
prevent sideline firms from entering market to capture excess profits.
6. Product differentiation: Product may be homogeneous (steel) or differentiated (automobiles).

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7. Perfect knowledge: Assumptions about perfect knowledge vary but the knowledge of various
economic factors can be generally described as selective. Oligopolies have perfect knowledge of
their own cost and demand functions but their inter-firm information may be incomplete. Buyers
have only imperfect knowledge as to price, cost and product quality.
8. Interdependence: The distinctive feature of an oligopoly is interdependence. Oligopolies are
typically composed of a few large firms. Each firm is so large that its actions affect market
conditions. Therefore, the competing firms will be aware of a firm's market actions and will
respond appropriately. This means that in contemplating a market action, a firm must take into
consideration the possible reactions of all competing firms and the firm's countermoves
9. Non-Price Competition: Oligopolies tend to compete on terms other than price. Loyalty
schemes, advertisement, and product differentiation are all examples of non-price competition.

c) EQUILIBRIUM PRICE AND QUANTITY.

PRICE DETERMINATION MODELS OF OLIGOPOLY:
1.Kinked Demand Curve model: The kinked demand curve model tries to explain that in non-
collusive oligopolistic industries there are not frequent changes in the market prices of the
products. The demand curve is drawn on the assumption that the kinked in the curve is always at
the ruling price. The reason is that a firm in the market supplies a significant share of the product
and has a powerful influence in the prevailing price of the commodity. Under oligopoly, a firm
has two choices:
 (a)    The first choice is that the firm increases the price of the product. Each firm in the industry
is fully aware of the fact that if it increases the price of the product, it will lose most of its
customers to its rival. In such a case, the upper part of demand curve is more elastic than the part
of the curve lying below the kink.
(b)   The second option for the firm is to decrease the price. In case the firm lowers the price, its
total sales will increase, but it cannot push up its sales very much because the rival firms also
follow suit with a price cut. If the rival firms make larger price cut than the one which initiated it,
the firm which first started the price cut will suffer a lot and may finish up with decreased
sales. The oligopolists, therefore avoid cutting price, and try to sell their products at the
prevailing market price. These firms, however, compete with one another on the basis of quality,
product design, after-sales services, advertising, discounts, gifts, warrantees, special offers, etc.
 

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In the above diagram, the demand curve is made up of two segments DB and BD’. The demand
curve is kinked at point B. When the price is 10frs per unit, a firm sells 100 units of output. If a
firm decides to charge 12frs per unit, it loses a large part of the market and its sales come down
to 20 units with a loss of 80 units. In case, the producer lowers the price to 4frs per unit, its
competitors in the industry will match the price cut. Its sales with a big price cut of 6frs increases
the sale by only 40 units. The firm does not gain as its total revenue decreases with the price cut

2.Price Leadership Model:  Under price leadership, one firm assumes the role of a price leader
and fixes the price of the product for the entire industry. The other firms in the industry simply
follow the price leader and accept the price fixed by him and adjust their output to this price. The
price leader is generally a very large or dominant firm or a firm with the lowest cost of
production. It often happens that price leadership is established as a result of price war in which
one firm emerges as the winner.
 
In oligopolistic market situation, it is very rare that prices are set independently and there is
usually some understanding among the oligopolists operating in the industry. This agreement
may be either tacit or explicit.
 
Types of Price Leadership: There are several types of price leadership. The following are the
principal types:
 (a)    Price leadership of a dominant firm, i.e., the firm which produces the bulk of the product
of the industry. It sets the price and rest of the firms simply accepts this price.
(b)   Barometric price leadership, i.e., the price leadership of an old, experienced and the largest
firm assumes the role of a leader, but undertakes also to protect the interest of all firms instead of
promoting its own interests as in the case of price leadership of a dominant firm.
(c)    Exploitative or Aggressive price leadership, i.e., one big firm built its supremacy in the
market by following aggressive price leadership. It compels other firms to follow it and accept
the price fixed by it. In case the other firms show any independence, this firm threatens them and
coerces them to follow its leadership.
 

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Price Determination under Price Leadership: There are various models concerning price-
output determination under price leadership on the basis of certain assumptions regarding the
behaviour of the price leader and his followers. In the following case, there are few assumptions
for determining price-output level under price leadership:
 (a)    There are only two firms A and B and firm A has a lower cost of production than the firm
B.
(b)   The product is homogenous or identical so that the customers are indifferent as between the
firms.
(c)    Both A and B have equal share in the market, i.e., they are facing the same demand curve
which will be the half of the total demand curve.
 

In the above diagram, MCa is the marginal cost curve of firm A and MCb is the marginal cost
curve of firm B. Since we have assumed that the firm A has a lower cost of production than the
firm B, therefore, the MCa is drawn below MCb.
 
Now let us take the firm A first, firm A will be maximising its profit by selling OM level of
output at price MP, because at output OM the firm A will be in equilibrium as its marginal cost is
equal to marginal revenue at point E. Whereas the firm B will be in equilibrium at point F,
selling ON level of output at price NK, which is higher than the price MP. Two firms have to
charge the same price in order to survive in the industry. Therefore, the firm B has to accept and
follow the price set by firm A. This shows that firm A is the price leader and firm B is the
follower.
 
Since the demand curve faced by both firms is the same, therefore, the firm B will produce OM
level of output instead of ON. Since the marginal cost of firm B is greater than the marginal cost
of firm A, therefore, the profit earned by firm B will be lesser than the profit earned by firm A.
 
IV.BARRIERS TO ENTRY

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Beside what we have so far discussed on respective barriers to entry, we can generally conclude
that there are four most important factors;
1. Product differentiation: This is where the firm has to convince its customer that its product is
significantly better than that of the new entrants. It will make the new entrant to sell at a lower
price and make insufficient profit, e.g SABC and source du pays companies in Cameroon
2. Control of input by existing suppliers: If the new entrants cannot easily obtain capital, raw
material and labour needed to produced their product, entry will be difficult
3. Legal restrictions: These are some laws from the state protecting existing firms. Eneo Plc has
the exclusive right to produce and distribute electricity in Cameroon
4. Economies of scale; Existing firms produce at a lower average cost than new entrants this
make the new firm not to operate at a higher cost.

V.CONCLUSION:
Managerial economics is all about taking decisions in the market in order to achieve the goals of
the organization which are profit maximization and shareholders wealth maximization. Such
decisions are taken base on the structure of the market. The essential problem in the issue of
market structure therefore is the determination of price and output, given the different
market conditions involved. Conclusions relating to profit, efficiency and growth
follow from here. It can also be seen that the starting point in the analysis is always
the demand and cost functions.

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PRESENTED BY
MBINKAR WIYSANYUY BENARD
SM15P143

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