Perfect Competition

 In the words of left witch,

“perfect competition is a market in
which there are many firms selling
identical products, with no firm large
enough relative to the entire market
to influence market prices.

A Perfectly Competitive Market

• A perfectly competitive market must

meet the following requirements:
●B o th b u ye rs a n d se lle rs a re p rice
ta ke rs.
●T h e n u m b e r o f firm s is la rg e .

●T h e re a re n o b a rrie rs to e n try.

●T h e firm s’ p ro d u cts a re id e n tica l.

●T h e re is co m p le te in fo rm a tio n .

●Firm s a re p ro fit m a xim ize rs.

The Definition of Supply and Perfect
Competition

• Supply is a schedule of quantities of

goods that will be offered to the
market at various prices.
• When a firm operates in a perfectly
competitive market, it’s supply
curve is that portion of its short-run
marginal cost curve above average
variable cost.
•
Demand Curves for the Firm and the
Industry

• The demand curves facing the firm is

different from the industry demand
curve.
• A perfectly competitive firm’s
demand schedule is perfectly
elastic even though the demand
curve for the market is downward
sloping.
Demand Curves for the Firm and the
Industry

• Individual firms will increase their

output in response to an increase in
demand even though that will
cause the price to fall thus making
all firms collectively worse off.
Price

Market Demand Versus Individual Firm

Demand Curve

Market Firm
Market supply

$10 $10

8 8
Individual firm
demand
6 6

4 Market 4
demand
2 2

0 0
1,000 3,000 Quantity 10 20 30 Quantity
The Marginal Cost Curve Is the Firm’s
Supply Curve

$70 Marginal cost

C
60

50
Cost, Price

40 A

30
B
20

10

0 1 2 3 4 5 6 7 8 9 10 Quantity
 Price

Determining Profits Graphically

MC MC MC
65 65 65
60 60 60
55 55 55
50 50 50 ATC
45 45 ATC 45
40 D A P = MR 40 40 Loss P = MR
35 35 35
30 Profit 30 P = MR 30
B ATC AVC
25 C AVC 25 AVC 25
20 E 20 20
15 15 15
10 10 10
5 5 5
0 0 0
1 2 3 4 5 6 7 8 9 10 12 1 2 3 4 5 6 7 8 9 10 12 1 2 3 4 5 6 7 8 910 12
Quantity Quantity Quantity
a) Profit case (b) Zero profit case (c) Loss case

Irwin / McGraw - Hill © The McGraw - Hill Companies , Inc ., 2000

Short-Run Market Supply and Demand

While the firm's demand curve is

perfectly elastic, the industry's is
downward sloping.
For the industry's supply curve we use

a market supply curve.

The market supply curve is the

horizontal sum of all the firms'

marginal cost curves, taking account
of any changes in input prices that
might occur.
Long-Run Competitive Equilibrium

• Profits and losses are inconsistent

with long-run equilibrium.
– Profits create incentives for new firms
to enter, output will increase, and
the price will fall until zero profits
are made.
– The existence of losses will cause
firms to leave the industry.
 Only at zero profit will entry and exit
stop.
 The zero profit condition defines the long-
run equilibrium of a competitive industry.
Price

Long-Run Competitive Equilibrium

MC

60

50
SRATC LRATC
40
P = MR
30

20

10

0
2 4 6 8 Quantity
An Increase in Demand

• An increase in demand leads to

higher prices and higher profits.
– Existing firms increase output.
– New firms enter the market,
increasing output still more.
– Price falls until all profit is competed
away.
 In the short run, the price does more of
the adjusting.
 In the long run, more of the adjustment
is done by quantity.

Advantages of Perfect Competition:

H ig h d e g re e o f co m p e titio n h e lp s
a llo ca te re so u rce s to m o st e fficie n t
u se

Price = m a rg in a lco sts

N o rm a lp ro fit m a d e in th e lo n g ru n

Firm s o p e ra te a t m a xim u m
e fficie n cy

C o n su m e rs b e n e fit
What happens in a competitive
environment?

N e w id e a ? – firm m a ke s sh o rt te rm
a b n o rm a lp ro fit
O th e r firm s e n te r th e in d u stry to
ta ke a d va n ta g e o f a b n o rm a lp ro fit
S u p p ly in cre a se s – p rice fa lls
Lo n g ru n – n o rm a lp ro fit m a d e
C h o ice fo r co n su m e r
Price su fficie n t fo r n o rm a lp ro fit to
b e m a d e b u t n o m o re !
PRODUCT DIFFERENTIATION
Pro d u ct d iffe re n tia tio n is o f vita l
im p o rta n ce in p ro d u ct m a n a g e m e n t
H a s g re a t p o te n tia lin fo rg o in g
su cce ssfu lm a rke tin g stra te g ie s

A b u sin e ss le ve lstra te g y in te n d e d to :
In cre a se th e p e rce ive d va lu e o f th e fo ca l
firm ’ s p ro d u cts a n d / o r se rvice s re la tive to
th e va lu e o f co m p e tito r’ s p ro d u cts a n d / o r
se rvice s
C re a te a cu sto m e r p re fe re n ce fo r th e
fo ca lfirm ’ s p ro d u cts a n d / o r se rvice s
 Basis of Differentiation

• A base of differentiation must fill some customer

need:
– Image, hunger, comfort, cleanliness, beauty, status,
style, taste, safety, quality, service, accuracy,
furthering a cause, reliability in use, nostalgia,
belonging.
• A differentiated product fills one or more needs better
than the products of competitors

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BASIS OF DIFFERENTIATION

I.Tangible product attributes

I.Intangible attributes and emotional associations

TANGIBLE PRODUCT
ATTRIBUTES
§IN G R E D IE N T S / FO R M U LA
ex .: C LO S E U P W IT H G E L

§FU N C T IO N A L FE A T U R E S
E x .: so u th w e st a irlin e s

§D IFFE R E N T IA T IO N B A S E D O N
A D D IT IO N A L FE A T U R E S
E x .: m o b ile p h o n e w ith a d d e d
fu n ctio n s
D IFFE R E N T IA T IO N O N PA C K A G IN G
Ex.:kurkure engages consumers through packaging

Differntiation through product

design/styling
Ex.: titan watches

Differentiation on product
quality/technology
Ex.: Lg refridgerators

DIFFERENTIATION BASED ON CUSTOMER

CARE AND SERVICES
Ex.: dominos pizza
DIFFERENTIATION ON
INTANGIBLE ATTRIBUTES
PRESTIGE/STATUS
Ex.: dinesh suitings

Sentiments
ex.: ray ban sunglasses

BELIEFS
Conditions for differentiation to
become effective
§Commitment to differentiation
§Should be perceived as intended
§Should add value to the user
§Promise must be delivered
§Should be rooted in the firm’s
competitive advantage
§Must keep an eye on cost

It is differentiation that builds brand

Essence of Differentiation

Poor differentiation Excellent

differentiation

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Summary

• Product differentiation creates customer preferences

• Preferences allow firms to make above normal profits
• Almost anything can be a base of differentiation
• Bases of product differentiation that meet the VRIO
criteria may generate competitive advantage
• A product differentiation strategy is only as good as
its implementation
• Product differentiation principles can be applied to
your personal and professional lives

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