RVHS_H2_ECONS_Essay_Q2

1 2014 Y6 H2 Prelims Essay Q2 The degree of market dominance is often associated with the size of a firm. (a) Explain how the degree of market dominance affects the amount of profits earned by a firm. [10] /g3  A firm with market dominance will have a downward sloping demand curve.  Higher market dominance a firm has, the higher its price setting ability and this results in the form of a more price inelastic demand curve.  Higher the ability of the firm to increase total revenue (TR) since an increase in price would lead to a less than proportionate fall in its quantity demanded, this would in turn indicate more profits for the firm, assuming no change in the total cost (TC).  Barriers to entry refer to any man-made or natural which are strong enough to prevent new rival firms from competing on an equal basis with the existing firms.  A perfectly competitive and monopolistically competitive ma rket structure have no and low barriers to entry and exit respectively. Thus , a perfectly competitive firm possesses no market dominance and a monopolistically competitive firm possesses low market dominance.  There are substantial barriers to entry and exit in an oligopolistic market and for a monopoly it has the highest level of barriers to entry and exit. Thus, an oligopoly and monopoly possess a high degree of market dominance.  Due to the varying degrees of barriers to entry, the different market structures will see a different impact on the amount of profits earned in the long run. The amount of profits can take the form of supernormal profits (TR>TC), normal profits (TR=TC) or subnormal profits (TR<TC).  In a perfectly competitive market, there are no barriers to entry. This implies that firms are free to enter and exit the market.  Explain using diagrams, how the PC firm eventually makes normal profits  In contrast, should a perfectly competitive firm be earning subnormal profits initially, this will cause some firms to leave the industry and decr ease the market supply. This will in turn increase the market price and diminish the magnitude of subnormal profits. Firms will continue to leave the industry until the remaining firms earn normal profits in the long run.  Similarly, in a monopolistically competitive mark et, there are low barriers to entry in reality.  Explain using diagrams, how the MC firm eventually makes normal profits  In contrast, a monopoly faces high barriers to entry. If the monopolist is making supernormal profit initially, new firms cannot easily enter the market even when there are supernormal profits to be made. There will be no change to the firm’s demand and it can continue to retain its supernormal profits. Likewise for a firm in an oligopolistic market, it also faces considerable barriers to entry. As it is difficult for firms to enter or exit easily, an oligopolistic firm’s supernormal profits will not be whittled away and can continue to retain its super