Resource Allocation and Efficiency in Different Market Structures
- There is some question as to the relationship between the level of competition and the efficient allocation of resources
- Usually, a monopoly has been seen as inefficient
- This is because output is below, and price is above the allocatively efficient levels (MC=AR)
- The firm is also not productively efficient, as AC is not minimised.
- A monopolist may also not provide a product of the quality that a consumer desires
- Also, dynamic efficiency may not be reached, as lack of competition would mean that the firm doesn’t need to spend much on research and development, and innovate.
- Where economies of scale are significant, prices may be lower in oligopolies and monopolies
- Firms may also likely to innovate, as due to the earning of supernormal profit in the long-run, they will have the funds to invest in development.
- This strategy could also help ‘raise’ barriers to entry and exit, this protecting the supernormal profit they’re earning.
- The existence of high barrier to entry, alongside the theory of creative destruction, suggests that firms outside the market will develop superior products and methods, and hence, overcoming the barriers.
- Firms may also likely to innovate, as due to the earning of supernormal profit in the long-run, they will have the funds to invest in development.
- A lack of competition could be outweighed by X-inefficiency
- This is the difference between actual costs and attainable costs
- It is represented by the ‘optimum’ AC curve being lower than the actual AC curve.
- This could be due to the firm over-employing, or managers taking large bonuses
- A firm producing under monopolistic competition also fails to achieve allocative efficiency.
- Output is restricted in order to maximise profit, and so the product is under-produced
- It is also productively inefficient, and is operating with excess capacity.
- Monopolistic competition is criticised on the grounds that there are too many firms producing at too low of an output at relatively high prices, and hence wasting resources.
- A greater output could be produced at a lower cost by fewer firms.
- However, it is argued that consumers gain, as there is greater choice and product differentiation
- Also, in a bid to differentiate their products and gain a competitive edge, firms may innovate, which could mean a reduction in costs, or an increase in the quality of their products.