Modified Markets (Unit 2 Topic 1)

Think about two things your household paid for this week. A coffee, say, and the electricity bill. If the cafe put its price up by a dollar you would shrug and walk two doors down. If the electricity network put its charge up, you would pay it, because there is no second set of wires running down your street.

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That difference is what economists call market structure, and it does more to explain prices than most people assume. The question is not how greedy a firm is. It is a simpler one: what can its customers do about it? Where they can walk away easily, prices sit close to what production costs. Where they cannot, prices drift upward and stay there.

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Economists sort markets along a spectrum. At one end is perfect competition — thousands of firms selling an identical product, as in wheat farming, where no single grower can shift the price at all.

Next comes monopolistic competition, where many small firms sell products that differ slightly, so your local cafe has just enough loyalty to charge a bit more. Then oligopoly, where a handful of large firms dominate: Australian supermarkets, banks and airlines all sit here. At the far end is monopoly, a single seller with no close substitute.

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One case deserves separate attention. In some industries the set-up cost is so enormous, and the cost of serving one more customer so small, that a single firm genuinely is cheapest.

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Building a second electricity network would double the fixed cost without serving a single extra home. Economists call this a natural monopoly, and because competition cannot discipline it, regulators cap the price instead.

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Work through the four tabs on the interactive. Set your own price and hunt for the profit-maximising point. Notice that in perfect competition the best you can manage is normal profit — enough to cover costs and keep going, no more. That is not a failure of the model. That is what competition is supposed to do.