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What is the difference between perfect and imperfect competition?

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posted Jul 11 by Amrita

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Perfect competition is a microeconomics concept that describes a market structure controlled entirely by market forces. In a perfectly competitive market, all firms sell identical products and services, firms cannot control prevailing market prices, market share per firm is small, firms and customers have perfect knowledge about the industry, and no barriers to entry or exit exist. If any of these conditions are not met, a market is not perfectly competitive.

Perfect competition is an abstract concept that occurs in economics textbooks but not in the real world. Imperfect competition, in which a competitive market does not meet the above conditions, is very common. Examples of imperfect competition include oligopoly, monopolistic competition, monopsony and oligopsony.

In an oligopoly, there are many buyers for a product or service but only a few sellers. The cable television industry in most areas of the United States is a prototypical oligopoly. While an oligopolistic market is competitive - the few active firms within an industry compete with one another - it falls well short of perfect competition in several key areas. The firms involved usually sell similar products, but they are not identical. Because of the small number of firms, a singular firm has the power to influence market prices; in fact, collusion, an underhanded tactic in which competing firms join forces to manipulate market prices, has historically been rampant in oligopolies. By its very nature, an oligopoly provides large market share to each firm. Perfect knowledge does not exist, and the barriers to entry are typically high, ensuring the number of players remains small.

Monopolistic competition describes a market that has a lot of buyers and sellers, but whose firms sell vastly different products. Therefore, the condition of perfect competition that products must be identical from firm to firm is not met. The restaurant, clothing and shoe industries all exhibit monopolistic competition; firms within those industries attempt to carve out their own subindustries by offering products or services not duplicated by their competitors. In many ways, monopolistic competition is closer than oligopoly to perfect competition. Barriers to entry and exit are lower, individual firms have less control over market prices and consumers, for the most part, are knowledgeable about the differences between firms' products.

Monopsony and oligopsony are counterpoints to monopoly and oligopoly. Instead of being made up of many buyers and few sellers, these unique markets have many sellers but few buyers. The defense industry in the U.S. constitutes a monopsony; many firms create products and services and attempt to sell them to a singular buyer, the U.S. military. An example of an oligopsony is the tobacco industry. Almost all of the tobacco grown in the world is purchased by less than five companies, which use it to produce cigarettes and smokeless tobacco products. In a monopsony or an oligopsony, it is the buyer, not the seller, who has the ability to manipulate market prices by playing firms against one another.

answer Jul 12 by Prajwal C.m.
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