Market Structures – Perfect Competition, Monopoly, Oligopoly & Monopolistic Competition

UPSC Microeconomics Smart-Prep • GS III • Prelims + Optional Support

1. What Are Market Structures?

In microeconomics, market structure describes how many firms operate in a market, how much market power they have, and how freely they can enter or exit. It determines the behaviour of firms, the shape of price and output decisions, and ultimately efficiency and welfare.

The four standard textbook structures are: Perfect Competition, Monopoly, Monopolistic Competition and Oligopoly. Real-world markets usually lie somewhere between these ideal types.

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2. Big Picture – Map of Market Structures

Think of market structures on a spectrum from many small firms with no power to one big firm with complete control. In between lie monopolistic competition and oligopoly.

graph TB
  A[Market Structures]:::root --> B[Perfect Competition]:::node
  A --> C[Monopolistic Competition]:::node
  A --> D[Oligopoly]:::node
  A --> E[Monopoly]:::node

  B --> B1[Many firms, identical product]:::note
  C --> C1[Many firms, differentiated product]:::note
  D --> D1[Few large firms, interdependence]:::note
  E --> E1[Single seller, barriers to entry]:::note

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3. Perfect Competition – The Benchmark of Efficiency

Perfect Competition is a theoretical market with many small firms producing a homogeneous (identical) product, where no single buyer or seller can influence price. Firms are price takers, and long-run equilibrium leads to allocative and productive efficiency.

Assumptions

• Large number of buyers and sellers
• Homogeneous product (no differentiation)
• Free entry and exit in the long run
• Perfect information about prices and technology
• No transport costs or transaction costs (in the ideal model)

graph TB
  A[Perfect Competition]:::root --> B[Many firms]:::node
  A --> C[Homogeneous product]:::node
  A --> D[Price taker]:::node
  A --> E[Free entry & exit]:::node

  D --> D1[P = MR = AR]:::note
  E --> E1[Normal profit in long run]:::note

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4. Monopoly – One Seller, Many Buyers

In a monopoly, a single firm is the only seller of a product with no close substitutes. The monopolist has significant market power and can influence price, subject to demand. Entry of new firms is restricted by barriers to entry.

Key Features of Monopoly

• Single seller, many buyers
• No close substitutes for the product
• Strong barriers to entry (legal, technical, natural)
• Firm is a price maker
• Downward-sloping demand curve (AR) and MR below AR

graph TB
  A[Monopoly]:::root --> B[Single seller]:::node
  A --> C[Barriers to entry]:::node
  A --> D[Price maker]:::node
  A --> E[Super-normal profits]:::node

  C --> C1[Legal, natural, technical]:::note
  D --> D1[Downward-sloping demand]:::note

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5. Monopolistic Competition – Many Sellers, Differentiated Products

Monopolistic Competition combines features of both competition and monopoly. There are many firms, but each sells a slightly differentiated product (brand, style, quality), giving some monopoly power in its own niche.

Key Features

• Large number of small firms
• Differentiated products (branding, packaging, quality)
• Free entry and exit in the long run
• Firm faces a downward-sloping demand curve (not perfectly elastic)
• Heavy use of advertising and non-price competition

graph TB
  A[Monopolistic Competition]:::root --> B[Many firms]:::node
  A --> C[Differentiated products]:::node
  A --> D[Some price control]:::node
  A --> E[Free entry in long run]:::node

  C --> C1[Branding, advertising]:::note
  E --> E1[Normal profit in long run]:::note

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6. Oligopoly – Few Big Firms & Strategic Behaviour

In an oligopoly, a small number of large firms dominate the market. Each firm’s decisions affect rivals, so there is strong interdependence and strategic behaviour (price wars, collusion, cartels, tacit agreements).

Key Features

• Few large firms with significant market share
• Products may be homogeneous (steel, cement) or differentiated (cars, phones)
• Entry barriers due to scale, capital needs, technology, or brand loyalty
• Firms closely watch each other’s actions
• Possibility of cartels (OPEC-type) or price leadership

graph TB
  A[Oligopoly]:::root --> B[Few large firms]:::node
  A --> C[Interdependence]:::node
  A --> D[Barriers to entry]:::node
  A --> E[Collusion / Competition]:::node

  C --> C1[Price & output decisions affect rivals]:::note
  E --> E1[Cartels, price wars, tacit collusion]:::note

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7. Revenue Curves & Market Power

Different market structures generate different shapes of Average Revenue (AR) and Marginal Revenue (MR). This determines pricing power and equilibrium output.

A. Key Revenue Concepts

• AR (Average Revenue) = Price per unit
• MR (Marginal Revenue) = Change in total revenue from selling one more unit
• Price Taker Markets → AR = MR = Price
• Price Maker Markets → MR < AR (downward-sloping)

graph TB
  A[Market Structure]:::root --> B[AR Curve]:::node
  A --> C[MR Curve]:::node

  B --> B1[Perfect Competition: Horizontal AR]:::note
  B --> B2[Others: Downward sloping AR]:::note

  C --> C1[Perfect Competition: MR = AR]:::note
  C --> C2[Monopoly & Oligopoly: MR below AR]:::note

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8. Equilibrium: Perfect Competition vs Monopoly vs Oligopoly

A. Perfect Competition

A firm maximizes profit when MC = MR. Since MR = Price in perfect competition, equilibrium occurs at:

B. Monopoly

Monopolists set output where MC = MR but charge price from the demand curve. Thus, price is always higher than marginal cost → P > MC.

C. Oligopoly

Equilibrium depends on strategic behaviour: Price leadership, kinked demand, collusion, or non-price competition.

graph TB
  A[Equilibrium Condition]:::root --> B[Perfect Competition]:::node
  A --> C[Monopoly]:::node
  A --> D[Oligopoly]:::node

  B --> B1[MC = MR = P]:::note
  C --> C1[MC = MR but P > MC]:::note
  D --> D1[Strategic equilibrium]:::note

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9. Real-World Examples (India & Global)

The following examples help in UPSC Mains answers and case studies.

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10. Comparison Table – The Ultimate Summary

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