Perfect competition

Perfect competition is a theoretical state essential to perfect capitalism. If it existed, it would drive prices to the perfect balance between the wants of buyers and sellers. It is characterized by an abundance of both buyers and sellers. The competition between producers drives prices down to the lowest level that pleases both consumers and producers.

Perfect competition is hindered by a variety of factors that limit competition. For example, one business might grow too powerful, several businesses may band together to raise prices, eliminating competition between them, or government regulations might heavily control a market.

Background

Free markets, also called laissez-faire markets, refer to markets in which individuals are free to exchange their goods without restrictions. In most cases, this involves individuals using money to purchase products from businesses or other individuals. However, it also may refer to any other form of unrestricted trade.

Trade is the most basic part of capitalism. When one person has something another person values, they may offer to sell it. The seller then sets a price at which other people can buy the item. Prices are governed by a concept called supply and demand.

In a theoretical market, many buyers need a particular product, and demand is high. However, when buyers can acquire the product only through a single seller, that seller can set the price of the product high. The single seller will regulate the supply in the market, keeping it low to drive prices up. The seller is the only supplier, and buyers have no option but to pay the requested price to acquire the product.

If more than one seller is providing the same product, the supply of that product in the market is increased. Sellers must provide a lower price to convince buyers to purchase from them instead of their competition. However, sellers still must set their prices high enough to make a consistent profit and survive as a business.

In a market where demand is low, buyers must be coerced into buying a product. Sellers must lower their prices to attempt to sway new buyers. For this reason, markets with low demand and high supply are not very profitable for sellers. They may find that prices are driven so low that making a profit proves impossible. In markets in which both supply and demand are low, trade may stop entirely.

There is no modern example of a true free market. All governments regulate prices, imports, and sales in some way. Common styles of nonrestrictive regulation include taxes, tariffs, licensing requirements, and fixed exchange rates. Many products are banned from being sold. Governments also may create a publicly-owned competitor that forces the price of a product lower.

Overview

Perfect competition is the perfect balance between sellers' need to make a profit and buyers' need for an affordable, high-quality product. If a market were in perfect competition, the competition between sellers would regulate prices so well that both buyers and sellers would be as satisfied with prices as they could be. Additionally, the constant competition between the various sellers would help drive the market forward, prompting invention and innovation among the creators. At this point, the market would be so well balanced that no single buyer or seller could destabilize it.

For supply and demand to function properly, competition between sellers must be maintained. However, several factors can limit or eliminate competition between sellers. One of the most well-known competition stifling tactics is the monopoly. To form a monopoly, a seller must remove every other competing seller from their sphere of influence. This can be accomplished through a variety of means. Some sellers outcompete all other sellers in their area through legitimate means, convincing virtually all buyers to use them instead. This stops other competitors from making a profit, driving them out of business. Large businesses can use a variety of unfair practices against their competition to force this goal. If a larger business has a stockpile of savings and a smaller business does not, it can temporarily drop the price of its product so low that it stops making money. Smaller businesses without savings cannot compete with the new price and are quickly driven out of business. Once the larger business has achieved a monopoly, it may raise its prices again.

In some instances, sellers create monopolies through mergers. When the major competitors in an industry decide that it would be more profitable to become a single large business, they attempt to join together. If successful, the businesses no longer have to compete with one another for profit and can set the price of their product at whatever they wish. In other instances, sellers can agree not to compete with one another. This process, called price fixing, creates an oligopoly, which is a market so thoroughly controlled by a small number of powerful sellers that no new players can compete with them. The sellers have secretly agreed upon a price at which to sell their products. Sometimes they agree to give a seller a temporary advantage to create the illusion of competition. In reality, because the prices are secretly fixed, the sellers hold all the power in the market.

Many governments have laws in place to break up monopolies and oligopolies. They understand that competition is necessary for a healthy economy. For this reason, most developed nations have established regulations that stop corporations from growing too large. They also attempt to stop large corporations from merging. The United States has passed regulations breaking up several large monopolies on essential resources, including steel and oil.

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