Price distortion is a potential issue under
a. Monopoly
b. Duopoly
c. Oligopoly
d. None
The correct answer and explanation is:
The correct answer is a. Monopoly.
In a monopoly, there is only one seller or firm in the market that controls the entire supply of a product or service. This market structure can lead to price distortion because the monopolist has the power to set the price at whatever level maximizes their profit, rather than allowing the forces of supply and demand to determine the price. The monopolist may raise prices to an artificially high level, leading to a situation where consumers have no alternative but to pay the higher price because there are no competing firms offering the same product. This results in a price that is higher than what would occur under perfect competition, where many firms would compete to offer lower prices.
Additionally, monopolies can lead to reduced consumer choice and inefficient allocation of resources. Because there is no competition, monopolists may have less incentive to innovate or improve product quality, leading to a reduction in overall consumer welfare. Price distortion occurs when the price is set above the equilibrium level, causing some consumers to be priced out of the market or to pay more than they would in a competitive market.
In contrast, in a duopoly (b) or oligopoly (c), while firms may still have some power to influence prices, there is competition, even if it is limited. In these markets, the price is still influenced by the interactions between firms, and the level of price distortion is generally less extreme than in a monopoly. However, in some oligopolistic markets, firms may engage in collusion to set prices at a higher level, but this is typically subject to legal and regulatory scrutiny.
Therefore, price distortion is most pronounced in a monopoly, where a single firm holds all the pricing power.