Forms of Market and Price
Determination Under Perfect
Competition with Simple
Applications UNIT:7
MARKET
The term “Market” refers to the arrangement that bring the buyers and sellers in contact with each other to
facilitate sale and purchase of goods and services.
Forms of Market
Perfect Competition Monopolistic Competition Monopoly Oligopoly
Note: Only perfect competition is in syllabus.
PERFECT COMPETITION
It is a form of market structure where there is a large number of buyers and sellers of a homogeneous
commodity.
Features of Perfect Competition
• Large number of sellers: It implies that no individual firm is able to influence the total market supply.
• Large number of buyers: It implies that no individual buyer can affect the total demand in the market.
• Homogeneous Market: The products sold under perfect competition are homogeneous. Thus, the price of
product remains same throughout market.
• Perfect Knowledge: Buyers and sellers are fully aware of the market prices of a commodity and
prevailing market conditions.
• Free Entry and free exit of firms: There are no restrictions on the entry and exit of firms.
• Perfect Mobility: Resources are perfectly mobile.
• Absence of transport cost: No extra transport cost, to ensure same price throughout market.
Y
Note: • A firm under perfect competition is a price taker, and not a price maker.
• Demand curve of a firm under perfect competition is perfectly elastic.
[ed = ∞] i.e. parallel to x axis.
Price
ed = ∞
• A firm under perfect competition earns only normal profits in the long run.
X
o Output
Curve of a perfectly
competitive firm
MARKET EQUILIBRIUM
Y
EQUILIBRIUM PRICE
Market Equilibrium is a state Excess supply
Price at which total market demand equals total
D S
where: P2
e
market supply.
Price
Pe
Total market Demand = Total P1
Market Supply S Excess demand D
X
EQUILIBRIUM QUANTITY
o Qe
Quantity Quantity at which total demand equals total supply.
Effects of Shift in Demand Curve
When supply curve is perfectly elastic When supply curve is perfectly inelastic
Effect of Increase Effect of Decrease Effect of Increase Effect of Decrease
in Demand in Demand in Demand in Demand
Y Y Y Y
D1 S D S
D1 D1 D D D1
D
E1 E1 E P2 E2 P E
E
Price
Price
Price
P S P S P E Price P1 E1
D1 D
D1 D1 D D1
D D
X X X X
o Q Q1 o Q1 Q o Q o Q
Quantity Quantity Quantity Quantity
Effects of Shift in Supply Curve
When demand curve is perfectly elastic When demand curve is perfectly inelastic
Effect of Increase Effect of Decrease Effect of Increase Effect of Decrease
in Supply in Supply in Supply in Supply
Y Y Y Y
D S D S1
S S1 S1
S1 S S
P2 P1
E E2 E2 E1 E E1
Price
Price
Price
Price
P1 D P D P P
E1 E
S S1 S S1
S1 S S1 S
X X X X
o Q1 Q2 o Q2 Q1 o Q o Q
Quantity Quantity Quantity Quantity
Effects of Simultaneous Change in Demand and Supply
Simultaneous Increase in Demand and Supply Simultaneous Decrease in Demand and Supply
Increase in Increase in Increase in Decrease in Decrease in Decrease in
Demand is more Demand is equal Demand is less Demand is more Demand is equal Demand is less
than increase in to increase in than increase in than decrease to decrease in than decrease
Supply. Supply. Supply. in Supply. Supply. in Supply.
Applications of Demand and Supply Curves
Price Ceiling (Maximum Price Legislation) Floor Price (Minimum Price Legislation)
Price Ceiling is the maximum legal price which Floor Price fixed the minimum price at which
the suppliers can change for a particular good the sellers may sell a particular product. To
or service. ensure higher price to producers.
Y Y
D S D Excess Supply S
P2 Floor Price
e e
Price
Price
Pe Pe
P2 Ceiling Price
S Excess D S D
demand
X X
o Qe o Qe
Quantity Quantity
Effects Effects
• Situation of excess demand • Excess supply, because producer produces
• Emergence of black market. more units at high price.
• Assuring the availablity of certain essential • Maintenance of buffer stock by government.
commodities at minimal price to poors.
• Emergence of various methods of allocation.
» First come, first served.
» Allocation by sellers preference.
» Rationing
