Market Power

Definition

Market power refers to the ability of a firm or group of firms to influence and control the market by setting prices, restricting output, and limiting competition. It is a measure of a firm's ability to charge prices above the competitive level and earn economic profits in the long run.

5 Must Know Facts For Your Next Test

1. Firms with market power can restrict output and raise prices above the competitive level, earning economic profits in the long run.
2. Barriers to entry, such as economies of scale, legal barriers, or control of essential resources, can help firms maintain their market power.
3. Monopolies and oligopolies are common examples of market structures where firms have significant market power.
4. Corporate mergers and acquisitions can increase market concentration, leading to greater market power for the combined entity.
5. Regulatory authorities often intervene to prevent or mitigate the abuse of market power, such as through antitrust laws and regulations.

Review Questions

• Explain how barriers to entry can contribute to a firm's market power.
  • Barriers to entry, such as economies of scale, legal barriers, or control of essential resources, can prevent new firms from entering a market. This allows incumbent firms to maintain their market power by restricting output and charging prices above the competitive level, earning economic profits in the long run. The presence of significant barriers to entry is a key factor that enables firms to exercise market power.
• Describe how a profit-maximizing monopoly chooses its output and price to exploit its market power.
  • As a profit-maximizing monopolist, the firm will choose the output level where marginal revenue equals marginal cost, and then set the price at the corresponding point on the demand curve. This allows the monopolist to charge a price that is higher than the competitive level and restrict output, earning economic profits in the long run. The monopolist's ability to control the market and set prices above the competitive level is a key manifestation of its market power.
• Analyze how corporate mergers and acquisitions can affect market power and the need for regulatory intervention.
  • Corporate mergers and acquisitions can increase market concentration, leading to greater market power for the combined entity. This can enable the merged firm to raise prices, restrict output, and limit competition, potentially harming consumer welfare. Regulatory authorities, such as antitrust agencies, often intervene to prevent or mitigate the abuse of market power resulting from mergers and acquisitions. By regulating anticompetitive behavior, these authorities aim to promote competition and protect consumers from the negative effects of increased market power.

Related terms

Barriers to Entry: Factors that prevent or discourage new firms from entering a market, allowing incumbent firms to maintain their market power.

Monopoly: A market structure where a single firm is the sole producer of a good or service, giving it significant market power to set prices and control output.

Oligopoly: A market structure where a few firms dominate the industry, allowing them to collectively exercise market power and influence prices.