The assumption of Perfect competition theory in economic theory, is one among other markets that then to show that no association under the theory are large enough to hold the market power, that set the prices of comparable products. Such markets are rare or not found at all because of their harsh conditions. Competition in economics’ generally tends to suggest that the desire of firms and individuals striving for an additional or greater share of a market to sell or purchase goods and services. Therefore, its competitiveness is not shown clearly as per the meaning of competition in reality. Perfect competition tend to deploy a lot of assumption that subsequently mean something different from known competition, most assumption block the competitive nature of the model.
Some of the assumption that are used by the theory includes; Many buyers in the market, many buyers, free entry and free exit, no advertisement cost, there is clear knowledge about the market, products sold in the market are similar or homogeneous, no transport cost because buyers and sellers stay in one location and there is no government involvement in making any decision in the market. All these assumptions tend to give us a different meaning of the theory, also; the assumptions is not of a competitive market thus give questions on the credibility the theory using competition while it does not go as per the true meaning (Walter, 2005).
Economists have used competition just to describe how the business operates basing on some assumptions that tend to make the theory work. Friedrich von Hayek who was an Australian economist then to explain his understanding of the assumption of perfect competition on therefore launches a lot of criticism of the theory acquiring the word competition and using it wrongly. Friedrich von Hayek went ahead and said that perfect competition is just a framework that provides judgment on the effectiveness of competition in real life that makes it perfectly from the actual model thus displaying entirely different meaning. Perfect competition depends mainly in assumption, for example competition used is not basically based on those assumptions. This model depends on a number of assumptions which are characterized by:-
Many sellers in the market
Sellers in the business design market supply. Sellers may be in the form of a firm or business or individually. In the model of perfect competition, price of a commodity is usually decided by market forces that are demand and supply. For an instant in the perfect competitive market no particular seller is in a position of changing the prices by controlling supply. This is because single seller's and single supply is just a small percentage of total supply. For example if a supplier need to increase the price of his product he will be in the losing part because nobody will tend to spend the extra dollar when he obviously knows other suppliers supplying at a cheaper price. Therefore seller must should follows the given market price thus becoming price taker and not price makers. The effect that sellers enter here is a real impact that makes them understand the direction of the market and not relying on the competitive nature of the market that should seek space to its entire member. Thus the dictating nature of that assumption tends to oppose the use of competition as per the name of the model.
Many buyers in the market
Many buyers in the market are also an important assumption that the theory depends. This is directly controlling the market demand. For instance, the market should depend on many buyers because individual consumer cannot gross check the price by changing or controlling the market, the individual market is so small and makes just a fraction of the total market demand. It is also assumed that every customer is forced to accept the market price that is decided by market forces of demand and suppliers thus making them price takers not price makers. This is the same as that of suppliers. This ultimately ensures only one price market survival. This also differs with the competitiveness of the principle which should be freely decided by even a single buyer in the market. The state buyers are forced to use prices as per market price is not that competitive in class and then to but the principle in a possibility to know how it differs from other markets like monopoly or monopolistic market?
A buyer usually wants to spend less for greater effectiveness in terms of utility and enjoyment but they will be forced to use the prices as it is even though the market is characterized by many suppliers, but because of market forces the competitiveness control of the market is rendered useless. Buyers will just buy the products provided by suppliers and they will not question any price the market dictates to them. Since they are price takers and prices are set by the market it will look as if they are forced and thus competition will not exits.
Free to enter and free to exit
Another assumption that tends not to keep the competitive nature of the perfectly competitive model is that knowledge of free to exit and free to entry .There are no restrictions on entry and exit of firms. Due to this feature most of profits made are expected profits. For example when abnormal benefits are realized more, new firms need to participate in the market and thus enter the market which will to leads to excessive competition among suppliers. When the firms participate in large numbers they will flood the market and prices goes down which will lead to less profit at the end. This will eventually fix the abnormal earnings to just normal earnings.
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When profits are less many firms or suppliers will need to move out and due to its entitlement to exits many firms will exit since their motives were to make a profit. This exit ill lead to reduced suppliers in the market which eventually own the monopoly of the market. These remaining firms will increase their prices and ultimately enjoy extraordinary befits again. The free entry, open door category then to give unfairness in the market that should be reasonably competitive in nature and thus limiting the model from its name. For example firms should be prepared to compete with other firms even though profit is less or more. Supplier will be entering the market only to enjoy profits not to dispense under market forces. Thiswill be unfair grounds for a theory like perfect competitive market.
Homogeneity of product is another assumption that makes perfect competition market work. Under this market all producer or suppliers produce or supply same products to customers in the market. This is perfectly identical products which are same in size, shape, taste, color, ingredients, quality and trademarks. This eventually ensures the existence of a single price in the market. Homogeneity in product is a hard thing when people want to compete for customers in the market that is why I stated earlier that to obtain a perfect competitive market at the current time is hard. Many suppliers tend to modify their product in order to get favors from customers.
Producer will try as much as possible to win the customer by providing new branding to their products also some tend to advertise their product as much as possible In order for the buyer to choose his firm over the other. This is a kind of competition that perfect competition lacks because of its formulation that heavily relies on the assumption that is outdated at current economic era. Homogeneity also forces a consumer to choose that product with or without looking on his utility factor. Since firms will be restricted to one product buyers, will not have any option thus becoming a slave to the products that are produced in the market at that time. So basing on reality where by competition is encouraged customer should not be forced to pick what he does not want also sellers should vary their product for best to their customers.
Advertisement cost is zero
In perfect competitive market, it is also assumed that there is no cost of advertisement since there is no advertisement. They believe that good and services produced in the market are homogenous, thus; there are no need for advertisement since buyers are aware of what is in the market. Buyers may not be aware of the prices of those products in different firms thus they may be exploited. The need for advertisement should be imposed but, upon introduction will change the operation of perfect competitive market may not qualify to be one. Thus, Friedrich von Hayek was on the right judging the credibility of competitive as used by economist who formulated this theory. So eventually since it should follow the assumptions, the advertisement cost is zero.
There is knowledge about market
Perfect competition also assumes that there is knowledge about the market. No buyers are charged more than the market price. This knowledge will force the sellers not to raise their product prices also since it is clear to buyers and sellers, sellers will not sell at a lower price than the market price. The knowledge about the market will never allow any greater competition among the suppliers since they will know that everything they are doing is watched closely by a buyer who may quit to another firm if they make any changes in their pricing ways.
Perfect mobility of factors is also another factor that supports the theory to work well. The assumption tends to say that those factors are essential for keeping supply at the same place with demand. For example, all factors simply are easily movable from one line of production to another line of production this will aid adjustment of supply to that demand for instance if the demand is high suppliers or producers will be forced to produce more to meet the need of the consumers also the opposite is also true.
These have been the rule of the market that is controlled by market forces. Where by the need of consumers are well solved by the suppliers by producing more to meet the need of consumers. This reliance of the market for suppliers to supply extra of the amount of product is not what the market need that rely on competition. Suppliers usually supply generally basing on the market demand but also introduce other marketing mechanism in order to win the consumers which are not part of perfect competitive market. Buyers should not wait for suppliers to go for what they demand but should find them with suppliers thus suppliers should be predicting what their customers need and produce thus not making the buyers wait. This will create a shortage in the market thus making the price of the commodity rise which will be an extra cost to the consumer (Roberts, 1987).
No government control
It is also believed that there is no government control over the market. Since it is known that market forces control the market, the need of the government to control the market is not applicable here. Government involvement to control market in perfect competition is not at all thus government intervention like taxes, subsidies, licensing policy also control over supply of raw materials. Due to limitation to control the market under perfect competitive market, the market will be more of capitalist rather than socialism. Capitalist in it capacity belief in competition thus the act of perfect completion failure to compete adequately compared with other present market.
This is an assumption that tends to explain the intention of perfect competition to maximize profit. This is not by seeking consumer favors’ but they tend to maximizes profit by using advantage of free exit. When firms exit the remmaining one maximize profit by raising the prices of the product. This is due to market forces acting due to higher demand and the remaining firms’ benefits from this. Indeed, it is usually the self-interest of producers or suppliers whose intentions makes and ensure market works efficiently. Profit maximization is done by any market for example, monopolistic market, monopoly and even duopoly. The way perfect competition market get their profit, depends on the assumption that firms exit thus the remaining firms raise prices and get profit there. Many firms use competitive nature to get profit which perfect completion has never used it. This contribute to high critics that arises to criticizes competitive nature of perfect competition model
Perfect competition model has also faced criticism, it seem mostly that the model is a merely a theoretical idea, based many assumptions that has been discussed above which rarely holds in the real world. It could be argued that the model does hold for some agricultural markets. A research was done in the USA which estimated that the elasticity of demand for sweet corn was 31,353, a value that is very close to perfect elasticity. However, it is seen to be unrealistic because it misses very important points. For example, allowing a glimpse of what the idea market would look like, in terms of resource allocation. The theory provides a measure against which alternative market structures can be compared. The rejection of perfect competition does not generally mean that the rejection of free d also makes profits. Indeed it has been seen that com that competition among markets is getting stronger nowadays than this olden capitalist regime.
Due to firms investing and entering into market, therefore, the idea of uniformity of investment in all industries owing to free entry is even more valid today. And few firms exits today because they are ready to vary their products so that they avoid many assumptions of perfect competition like homogeneity. Perfect competition is known by the assumption of free entries because of absence of barriers but, we have the likes of General Motors, and Nestle. General motors’ and nestle didn’t enter the computers or pharmaceutical industries even though there is no insurmountable barriers to enter but rather their rates of return in their current industries is already sufficient in which the average rate of return in another economic market does not depend on entry even though they offer same products. Economist may not agree with the founders of perfect competition i.e. the neoclassical.
For instance for normal issues, product prices, which do not depend on the assumption of perfect competition that bring differences on the validity. Thus, the use of the model in current time is not that applicable and that it was only brought in by neoclassic in order to test whether competition brought will favors the capitalist regime who wanted to exercise monopoly indirectly. The way they used competition was just mere confusion that they wanted cover up their intention.
The perfect completion issue is different with other factor markets. We may accept or deny perfect competition in labor markets whose difference is not big enough to the view of the working of market economies. We should be able to distinguish either neoclassical from non-neoclassical economists. At the present times, absence of perfect competition in labor markets, is because of existence of introduction of trade unions, impedes the smooth working of competition. If eventually it is left free to operate would cause many problems like decrease of wages of people in the labor force as well as there is unemployment in the economy. Labor unemployment is caused by the absence of perfect competition in labor markets. Non-neoclassical economists deny that a full flexibility of wages, which ensure the full employment of labor also find a stickiness of wages an indispensable component of a market economy. The failure of the perfect competition to provide satisfaction on the labor market has led it being looked down as an unreliable policy in the economic world (Hayek, 1996).
The big lesson the whole nature of perfect competition is that we should bother much less about whether competition at any point is perfect and we should therefore, worry more on whether there is competition at all. The theoretical part of it is what should show has whether the model explain it competitiveness or not than perfect from imperfect competition. The notion of using the competition here does not at all explain in a real sense what it mean and thus it use is not adequate at all.
We should look at competition as a process of the formation of opinion by ensuring that it its motives is to spread information, provides or create unity and adequate coherence of the economic system which is essential when we think of it in market basis. People knowledge about the best and the cheapest views creates possibilities and opportunities in the market It is thus a process which involves a continuous change of data whose significance have not been explained correctly by the model. The theory therefore, sees all those data as constant
Perfect competition in economic theory tends to describe markets in such a way that participations are not large enough to have the market power. This market power usually sets the market prices of homogenous products because of the condition and assumption of the perfectly competition that provide strict condition for the perfectly competitive markets.
Perfect competition as explained by neoclassic do not comply by their way they use competition because all the assumption does not comply with it, being competitive. Therefore, Friedrich von Hayek tendency of criticizing the use of competition in the model is justified because of the failure of the theory to provide essential need of competition like other markets in the economy.