Which of the following is correct?
a. Both purely competitive and monopolistic firms are “price takers.”
b. Both purely competitive and monopolistic firms are “price makers.”
c. A purely competitive firm is a “price taker,” while a monopolist is a “price maker.”
d. A purely competitive firm is a “price maker,” while a monopolist is a “price taker.”
The correct answer and explanation is :
The correct answer is:
c. A purely competitive firm is a “price taker,” while a monopolist is a “price maker.”
Explanation:
In economics, the terms “price taker” and “price maker” refer to the ability of a firm to influence the market price of its product.
- Purely Competitive Firm (“Price Taker”):
- In a purely competitive market, there are many firms selling identical products. No single firm has the power to influence the price of the product because the products are perfect substitutes, and consumers can easily switch between suppliers. Therefore, each firm must accept the market price as given, meaning it is a “price taker.”
- These firms face a perfectly elastic demand curve, meaning they can sell any quantity of goods at the market price, but if they try to raise their price even slightly, customers will simply buy from other firms. Thus, the firm’s individual actions do not affect the market price.
- Monopolist (“Price Maker”):
- A monopolist is a firm that is the only seller of a unique product with no close substitutes. Because of this market power, the monopolist can set the price for its product, making it a “price maker.”
- The monopolist faces a downward-sloping demand curve, meaning it must lower the price to sell additional units. However, it still has the ability to set the price, unlike firms in competitive markets. The monopolist’s pricing power results from the lack of competition and the uniqueness of its product, allowing it to determine both the price and the quantity it wishes to sell.
Conclusion:
- Purely competitive firms are “price takers” because they have no control over the price and must accept the market price.
- Monopolists, on the other hand, are “price makers” because they can influence the price by controlling the supply of their unique product.