A perfectly competitive market structure is a structure in which all firms compete against each other equally. All firms are equal and there is no such large firm to dominate in the market structure. Perfectly competitive market structures are characterized by free entry and exit, production of homogenous products, and price taking. According to Maurice & Thomas (2008, p. 396), in perfect competition, there is free enter and exit with any firm that feels that it has enough capital to venture into the industry can enter the market with no restrictions. In addition, when the firm is unable to continue with operation in the market, it can leave the market. Therefore, there is free entry and exit of firms in the market.
A perfectly competitive market structure is also characterized by the homogeneity of products produced. This means that the products manufactured by one firm are similar and identical to the products manufactured by another firm in the market. The identity of products of companies operating in a perfectly competitive market ensures that the consumers of products in the industry are indifferent to the firms that they purchase the products. Therefore, differences in products are precluded under perfect competition (Maurice & Thomas, 2008, p. 396).
Organizations operating under perfect competition are assumed too small relative to the market to the extent that they cannot influence the product price in the market using the alteration of outputs. Therefore, all firms are price takers, and no firm can set the price. When all producers are together in one industry, changes in their output can affect the price in the market. However, each individual firm is too small in relation to the market under perfect competition and individual changes in quantity cannot affect the equilibrium price. The equilibrium price is set using the forces of demand and supply (Maurice & Thomas, 2008, p. 396).
Despite operating in a similar market, Geetika, Piyali & Choudhury (2008, p. 314) note that firms in perfect competition do not compete amongst themselves. The production of identical products and the fact that firms face a price that is determined by demand and supply forces does not give any firm an incentive to beat its rival and drive it out of the market. All firms maximize profit at the point where marginal revenue is equal to marginal cost (MR=MC). This is the optimal production point (Maurice & Thomas, 2008, p. 398).
A firm operating in a perfectly competitive industry can produce any amount of goods and sell them without altering the price in the market. This is possible given the above assumption of perfect competition that firms in perfect competition are price takers rather than price setters (Maurice & Thomas, 2008). The firms in the market are too small and insignificant in relation to the market to alter the price regardless of the size of the firm. Due to this assumption, the firm is able to increase its output and sell it. However, it is not possible for the firm to alter the price due to its size when compared with the market as a whole. Therefore, price is determined by the equilibrium between products demanded and the supplied in the market and not the activities of the firm. In summary, a perfectly competitive firm cannot alter the price of goods in the market due to its small size in relation to the market.
Geetika, Piyali, G. & Choudhury, P. (2008). Managerial Economics. New York, NY: Tata McGraw-Hill.
Maurice, S. & Thomas, C. (2008). Managerial Economics. 9 Ed. New York, NY: McGraw-Hill.