Explain the spectrum of competition from competitive markets to monopoly, the features and effects of each on price, choice, quality and efficiency, and why firms try to gain market power.

What this dot point is asking

Markets differ in how much competition they contain, and CCEA expects you to explain the spectrum from highly competitive markets at one end to monopoly at the other. You must describe the features of each, explain how the degree of competition affects price, choice, quality and efficiency for consumers, understand barriers to entry, and explain why firms try to gain market power. This is the first half of Section 2, Competition and the labour market, and it builds directly on demand, supply and elasticity.

The spectrum of competition

Economists picture markets along a line according to how much competition exists. At one end is a competitive market with many firms selling similar products and easy entry for new firms. At the other end is a monopoly, where a single firm dominates and is protected from rivals. Most real markets sit somewhere in between, with a few large firms.

The key idea is that the degree of competition shapes how firms behave. The more rivals a firm faces, the harder it must work to attract customers; the fewer rivals it faces, the more power it has to set its own terms.

What competition does for consumers

In a competitive market, firms compete for customers, and that competition works in the consumer's favour in four main ways.

• Lower prices. Rival firms undercut each other to win sales, so prices are driven down towards the cost of production.
• More choice. Firms differentiate their products to stand out, giving consumers a wider range to pick from.
• Better quality and service. To keep customers, firms must maintain quality and offer good service, or buyers switch to a rival.
• Innovation. The pressure to stay ahead encourages firms to invent new and better products.

Competition also pushes firms to be efficient, because a firm with high costs cannot match its rivals' prices and will lose customers or go out of business.

Barriers to entry and monopoly power

What stops a market from being competitive is the presence of barriers to entry: obstacles that make it hard for new firms to join. These include the high cost of equipment, established brand loyalty, control of a key resource, legal protection such as patents, and the economies of scale that large incumbents already enjoy. The higher the barriers, the more a dominant firm is shielded from competition.

A monopoly can use this power to raise prices and restrict output, because customers have nowhere else to go, especially if demand is inelastic. With no rivals, there is also less pressure to improve quality or innovate, and resources may be used inefficiently.

Why firms want market power, and the case for monopoly

Firms try to gain market power precisely because it is profitable: with fewer rivals, a firm can charge higher prices and protect its profits. This is why firms advertise to build brand loyalty, try to take over competitors, and innovate to get ahead.

Monopoly is not always bad for consumers, however. A very large firm may achieve economies of scale (lower costs per unit as it grows), and could pass some of those savings on as lower prices. High monopoly profits can fund research and development that leads to better products. And in a natural monopoly, such as water supply, one network is genuinely the most efficient way to serve everyone. This is why governments regulate monopolies rather than always banning them.

Why this matters

The level of competition is one of the main things that decides whether consumers get a good deal, so it underlies government competition policy and the regulation of monopolies. It connects to elasticity (a monopolist exploits inelastic demand), to the labour market (large firms have power over wages too), and to international trade (foreign competition disciplines domestic firms). Examiners reward candidates who can explain the mechanism by which competition helps consumers and who can evaluate both the harms and the possible benefits of monopoly.