Need for Market Classification

A manager should be aware of the features and limitations of market types in which he operates for several reasons. First, the kind of market in which a firm operates directly affects its pricing, marketing, production and investment behaviour. The market structure can help in understanding the behaviour pattern of the competitors. The pricing policy of a pharmaceutical company manufacturing wonder drug under patent will differ sharply from that of an agricultural manufacturer selling its product in a competitive market.

Second, the kind and degree of competition varies widely across market structures. Where a few large firms dominate markets, price competition tends to be blunted, higher prices being one result. Thus, the potential profits that a firm can earn and the prices consumers may pay can be expected to vary across different markets. It becomes necessary to understand how the variables of the process - price, product, and promotional activities increase firms' market share.

Third, market structure has direct bearing on the role of government regulation. In markets where competition is vigorous, government regulation is unnecessary and inappropriate. On the other hand, key objectives of regulation are to prevent the potential monopolisation of markets, prohibit anti-competitive practices by firms, and oversee the pricing, production and investment decisions of natural monopolies (such as utilities, television cable companies and the like). Firms having monopoly should be familiar with these practices. 

Market structure refers to the number and size of buyers and sellers in the market for a good or service (Pappas and Hirschey, 1985). A market can be defined as a group of firms willing and able to sell a similar product or service to the same potential buyers. 

Economists classify markets in four broad categories: perfect competition, monopoly, monopolistic competition and oligopoly. Number of sellers, product differentiation, and entry and exit conditions are the major features that determine market structure.

In perfect competition, there are many sellers/firms in the market selling almost identical product. A firm cannot distinguish its products from those of other firms in the market. One farmer's wheat is the same as another farmer's therefore, all firms sell at the same price. If a firm increases price the buyers will turn to other firms and buy product at the going price. The buyers have complete information about the price of the product. There is free entry and exit of firms. This means that in a perfectly competitive market, there are no legal or practical barriers to keep firms from entering or leaving the market.

In case of a monopoly market, there is a single seller due to which he has considerable control over the price. Public utilities like railways and water supply are such examples. This monopoly might be the result of government regulations, licence, scale economies or other factors. The product supplied is thus unique and hence, entry blocked. Monopolists also engage in advertising to increase total demand rather than capture sales.

Monopolistic competition has features of perfect competition and monopoly. It is considered competitive because there are many sellers and it is relatively easy to enter in this market. But it is monopolistic because sellers try to differentiate their product as much as possible from their competitors. One firm's shirt may differ in       style and quality from another firm's shirts. There is considerable emphasis on non-­price competition. They mainly compete on basis of style, quality, product features or services. Many competitors focus on the market segments where they can meet customer need in a superior way and command a price premium. Small retail stores, restaurants, repair shops, laundries and beauty parlours all compete in this market form.

Oligopoly markets have relatively few sellers who are large in size (as measured by such indicators as market share, assets and number of employees). These firms may sell either standardised products (example - aluminium, steel and chemicals) or differentiated ones (example - cars and scooters). Heavy capital investment tends to create practical barriers to entry, for example, it is expensive to build an auto plant or oil refinery. Oligopolies rely heavily on non-price competition.

A point to be noted is that the division of these market structures is quite flexible. Change in government policies and dynamic macroeconomic environment may challenge the monopoly of a firm. Breakthrough in technology may give monopoly power to a monopolistic competitive firm. Examples cited below show how market structure can change over the course of a product life cycle.

• Apple Computer was the first to introduce personal digital assistants (PDA) called Newton. Its monopoly did not last long as Casio and Tandy quickly followed with a similar product. Shortly after this, Motorola and Hewlett-­Packard announced their own versions of PDA resulting in evolution of a market from monopoly to oligogpoly.
• VSNL that enjoyed virtual monopoly for almost three years from August 1995 to Nov. 1998 is facing stiff competition from Satyam Online and other private players with the opening of gates to private sector. The company had achieved a subscriber base of 2.5 lakhs in the virgin market. From Nov. 98 to March '00 its base grew only 0.93 lakh,¹
• Similarly, IBM was a leader in computers but as the market found its 'natural boundaries' and new segments like microprocessors and minicomputers developed, new leaders emerged in these segments. IBM is still the leader in the mainframe market but it is not the leader in any of the other segments.

Monopoly, monopolistic competition, and oligopoly are often referred to as imperfect competition to distinguish from perfect competition. Market forms discussed till now have been defined in terms of sellers in the market. Analogous types of market structures can be defined in terms of buyers of the product or input. Monopsony refers to the market situation in which there is a single buyer of a good or input for which there are no close substitutes. Monopsonistic competition comprises of small number of buyers competing against large number of sellers. Oligopsony exists when few buyers compete against large number of sellers. Monopsony and oligopsony are common in input markets than in product markets. They sometimes exist in labour markets dominated by one or a few large employers, or in government purchases of large defence systems.

Bilateral monopoly exists when a small number of buyers compete against a small number of sellers. When a small number of buyers compete against large number of sellers it is called a buyers' market, while under sellers' market proportionately small number of sellers compete against large number of buyers. Under buyers' market, buyers try to pull down prices as low as possible, whereas in sellers' market, sellers try to push up prices as high as possible. 

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