Perfect Competition: Characteristics and Examples

The perfect competition it is a fictitious market structure that fulfills a series of ideal conditions for it. In this way, neoclassical economists believed that perfect competition achieved the best results in the economy, benefiting consumers and society in general in the same way.

Theoretically, in the different models applied in a market of perfect competition, the market would reach a balance between the quantity offered and the demand for a product. This situation is known as the Pareto optimum, which is the market equilibrium price that producers and consumers would sell and buy.

Perfect competition

Index

  • 1 characteristics
    • 1.1 A large number of producers and consumers
    • 1.2 Perfect knowledge of the market
    • 1.3 Rational decisions of producers and consumers
    • 1.4 Homogeneous products
    • 1.5 No barriers to entry or exit
    • 1.6 No producer can influence the market
    • 1.7 Perfect mobility of production factors and goods
    • 1.8 There are no externalities
    • 1.9 No economies of scale or network effects
  • 2 Differences with imperfect competition
    • 2.1 Number of producers and consumers
    • 2.2 Product differentiation
    • 2.3 Market information
    • 2.4 Entry barriers
    • 2.5 Influence in the market
  • 3 Examples of perfect competition
    • 3.1 Possible markets of perfect competition
    • 3.2 Bread
  • 4 References

characteristics

This hypothetical market is characterized by the following characteristics:

A large number of producers and consumers

There is a large number of people willing to offer a product at a certain price, and a large number of people are willing to consume it at the same price.

Perfect knowledge of the market

The information is fluid and perfect, with no possibility of errors. All producers and consumers know perfectly at what price to buy and sell, so the risk is minimal.

Rational decisions of producers and consumers

By having a perfect information of the prices and the utility of the products, they will make rational decisions for themselves. Producers will seek to maximize their benefit and consumers will maximize their utility.

Homogeneous products

In the market of perfect competition all the products are substitutable among themselves. In this way, consumers will not prefer one another, keeping the price constant.

No barriers to entry or exit

Producers are free to leave the market if they do not see a benefit. The same happens if a new producer sees a possible benefit: he can freely enter the market and sell the product.

No producer can influence the market

The producers are many and none has more market power than another. Therefore, it is not possible for any of the producers to have more power and mark the price of the product.

Perfect mobility of production factors and goods

The factors of production and products are perfectly mobile, and are transported free of charge.

There are no externalities

In perfect competition no third party is affected by the costs or benefits of the activity. This also excludes any government intervention.

No economies of scale or network effects

In this way, it is ensured that there will always be a sufficient number of producers in the market.

Differences with imperfect competition

As we see, perfect competition is a completely hypothetical and impossible to achieve structure. However, there are markets that can meet some of the characteristics of a perfect competition market, while violating others. These we call markets of imperfect competition.

Therefore, the first big difference between these markets is that the term"perfect"is theoretical, while the imperfect market is what we find in real life. The differences that we can find between both are multiple:

Number of producers and consumers

In this case, there may be different types:

Monopoly

It happens when there is a single company that offers a product, without any competition and can handle the offer to your liking. In these cases, their activity is usually regulated to avoid abusive behavior.

Oligopoly

The oligopoly exists when there are a few companies that produce a specific product or service. In this case, these companies can form associations called cartels, in order to behave like a monopoly. If it is only two companies, this figure is called duopoly.

Monopolistic competition

In this situation many producers compete with a similar product. Production is more expensive for companies than in the case of perfect competition, but consumers benefit from product differentiation.

Monopsony

A market with only one consumer for multiple producers.

Oligopsonio

A market with a few consumers for multiple producers.

Product differentiation

While in a market of perfect competition all products would be homogeneous and completely substitutable, in an imperfect market there may be a differentiation of them.

This benefits consumers, who have options to choose between one and other products according to their conditions.

Market information

As we have seen in the characteristics of the perfect markets, in these cases there is a perfect knowledge of all market information by all the actors.

In contrast, in an imperfect market this perfect information does not exist. This translates, for example, in that if a company wants to raise the price of a product, consumers can continue to consume it due to lack of knowledge or loyalty, although there may be substitutes at a lower price.

Entry barriers

In competitively perfect markets, entry and exit barriers for companies are completely free. However, in the case of imperfect markets there are strong entry barriers for new producers.

For example, the higher market share of some producers means that new entrants have to invest a very large amount of capital in order to compete with them.

Influence in the market

While in the perfect competition no producer has greater market share and, therefore, does not have the power to influence the market either, in imperfect competition the opposite happens. Producers with more power can alter product prices, influencing the rest of the market.

Examples of perfect competition

As seen above, perfect competition is a theoretical exercise that can not be achieved in real life. However, for a better understanding we are going to imagine a hypothetical real situation of perfect competition.

For this, we are going to take Spain as the producer of a typical product: the potato omelette. If this market were perfect competition, there would be multiple tortilla producers, with multiple consumers.

These producers would produce exactly the same tortilla, making consumers not have the slightest inclination towards one or the other. In addition, supply and demand would always be constant, since the price would be the same for all (equilibrium price, Pareto optimum).

Companies would not be better off, since consumers would buy directly from other producers. All this information would be known by producers and consumers, making the whole system work smoothly and rationally.

If someone sees that he could have a profit in the tortilla market, he could perfectly and without barriers enter this market as a producer. In addition, all the movement of tortillas would be free and free.

As we see, this case would not be possible to achieve in real life. However, it is a good way to measure the different forms of existing market, to try to get as close as possible to this hypothetical perfect situation.

Possible markets of perfect competition

Although it is generally believed that perfect competition in the real world is not possible, some possible examples could be:

Bread

As it explains Larepublica.co

"Rolls that are similar in all the bakeries and in each block there are at least two coffee shops with their own baker. If in Doña María's bakery they raise bread, then we go to the one in the other corner, which is cheaper. This is perfect consumer mobility."

farming

According to the web businesszeal.com, agriculture markets are the closest representation to perfect competition markets. They have a large number of sellers that offer fruits or vegetables, with identical products.

The prices of these goods are competitive and no individual seller can influence the price. Consumers can choose any seller.

Free software

According to the web businesszeal.com, free software could also work in a similar way to agricultural markets. Software developers could enter and exit the market at will. The price would also be determined by market conditions, rather than by sellers.

References

  1. O'Sullivan, Arthur; Sheffrin, Steven M. (2003). Economics: Principles in Action. Upper Saddle River, New Jersey 07458: Pearson Prentice Hall. p. 153
  2. Bork, Robert H. (1993). The Antitrust Paradox (second edition). New York: Free Press
  3. Petri, F. (2004), General Equilibrium, Capital and Macroeconomics, Cheltenham: Edward Elgar
  4. Garegnani, P. (1990),"Sraffa: classical versus marginalist analysis", in K. Bharadwaj and B. Schefold (eds), Essays on Piero Sraffa, London: Unwin and Hyman, pp. 112-40
  5. Stigler J. G. (1987). "Competition", The New Palgrave: A Dictionary of Economics, Ist edition, vol. 3, pp. 531-46
  6. Lee, F.S. (1998), Post-Keynesian Price Theory, Cambridge: Cambridge University Press.