We may begin with a purely competitive market. Such a market is characterized by large numbers, homogeneous products, and freedom of entry. By large numbers we mean that the number of producers is so large that no one producer--or group acting as one--is in a position to exert any (reasonable) influence over price by manipulating output. What may be large in one instance may not be considered such in another. The test is market influence. The products in question must be identical, that is, there are no identifying characteristics which demarcate one producer's goods from another.
This applies to the techniques of selling and the patronage appeals of the seller as well as to the product itself. Hence, price variations will be the only reason to cause buyers to shift from one seller to another. Finally, there must be the freedom to enter into and withdraw from the industry. In the actual markets of today there are few, if any, examples of such a situation, although some agricultural markets and organized security exchanges may be somewhat of an approximation. The foregoing are the prerequisites on the seller's side.
There are similar conditions on the demand side. Each buyer must be so small in relation to the entire market that he can exert no influence (no reasonable influence) on price by his actions. Obviously, the goods must be identical and the buyers must have freedom of choice. Most consumers who buy at retail represent pure competition to a degree on the buyer side. In general, if the conditions are met on the seller side alone, the market will be called purely competitive, The extreme of competition is called perfect. This kind includes the conditions of pure competition, but it also requires that all buyers and sellers have perfect knowledge of the market and be in a position to take instantaneous advantage of their knowledge.
At the other extreme is monopoly, which means literally that there is one seller as the sole source of a product; in this case, the buyer must meet the seller's terms or do without. Monopoly power implies that there is the power over price, product, and entry into the business along with relative freedom to act in these matters. The Supreme Court has looked upon monopoly as the power for a person to raise prices or to exclude competition when he so desires.
Actually, there may be shades or degrees of monopoly, depending on the definition of the product and market. If one has in mind a classification of products, such as writing implements, he would need to include complete and absolute control over fountain pens, pencils, and so on. Or, he may refer only to a monopoly over fountain pens, or a type of fountain pen, or even a specific brand of fountain pen. A pure monopolist produces a product that is sufficiently unlike that of others to give him a relatively wide range of price control. The availability of a substitute becomes the factor limiting his price jurisdiction. A perfect monopoly would go further and require control over all possible forms of substitutes, a situation 'which would exist only under some sort of state socialism. Some monopolies, such as public utilities or grantees of patents and copyrights, exist because they have been so authorized by law. Aside from these, there are few examples of pure monopolies over a complete product line. More generally, the case is control over a particular brand or style.
If there is but one buyer in the market, such as a governmental unit, this is known as monopsony. A bilateral monopoly refers to the combination of one buyer and one seller. A duopoly presents the situation where there are two sellers of an identical item; a duopsony where there are two buyers.
Between the extremes of pure (and perfect) competition and pure (and perfect) monopoly lie most of the actual markets. As a general approach, the characterization imperfect competition is used to describe a market that deviates from a perfectly or, more likely, a purely competitive one. These departures may reflect numerous circumstances, but the net result is to give a producer some sort of control over price. Oligopoly, the most typical example of an imperfect market, is a market where the number of sellers is small enough so that at least one of them will have power through variations in his output to exert an influence on price. In its most extreme form, the product of each producer must be identical. However, it is common to accept a group of products that are reasonably close substitutes as constituting the scope of the oligopoly. What comprises a small number is not easy to determine. All that can be said is that the number is not large enough to eliminate the price influence of particular producers, yet it is small enough to enable such an influence to exist.
Typical examples of oligopolistic markets are the familiar instances of the dominant three, four, five, and so forth in a number of manufacturing lines. In the case of a perfect oligopoly, the product is homogeneous. Here we are limited primarily to some basic commodities, such as coal, cement, or raw materials, where there has been little attempt to point up differences in the product of various producers. On the other hand, there are modified oligopolies in which there are a few producers of a product line, each producer's offering differing slightly from that of his competitors, yet similar enough to be treated as part of the same market. Examples are industries producing automobiles, fountain pens, appliances, soap, and so on through a host of consumer goods.
It is important to keep in mind the reason or reasons why the number of producers in an oligopolistic market is small. There may be a series of technological factors that require such a vast capital investment that few are able to enter the field, or the industry may be based on scarce materials, limited patents, unique location factors, or special processes.
On the buyer side of the picture, where the number of buyers is such that any one of them may exercise price influence, we have an oligopsony. These cases are lessening because of legal restrictions on receiving price discounts based on quantity of purchase alone.
If the seller's price jurisdiction is based on the fact that his product is different in some manner from that of his competitors, the market is described as monopolistic competition or product differentiation. There may be an actual difference or a superficial one, but the results are the same so long as the buyers believe there is a difference. The purpose of the differentiation is to make the given producer's product so unlike that of his competitors that he will have a degree of price differentiation. If this actually is accomplished, the producer will have a monopoly to this extent. Although the adjective "monopolistic" is appropriate, only a very limited monopoly will be involved. It must be remembered that this producer broke away from a group and offered something different, causing others to act similarly. The result will be a group of producers who are offering a range of products which are very similar in that they satisfy most of the buyer's desires, yet are differentiated in some respect. The degree of substitution and the competition that results are responsible for the inclusion of the term "competition" in this description. A series of brand offerings of a basic type of good are the outstanding example of this type of market--for example, Pall Mall, Winston, and Chesterfield cigarettes.
The underlying point here is that the price authority is based on uniqueness of product, and not smallness of numbers, which sets a definite limit to the power over price of any included seller. If monopolistic competition, however, is coupled with oligopoly (few producers), the power over price is increased to that extent.
The elements of monopoly and competition in monopolistic competition is a chemical type of blending. It is not a mechanical arrangement wherein these elements may be isolated and added and removed at will. Instead, their mixture results in a new reaction that is neither monopoly nor competition, and the consequences on price and market policies are of a special variety.
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