An imperfect market refers to any economic market that does not meet the rigorous standards of the hypothetical purely competitive market. Pure or perfect competition is an abstract, theoretical market structure in which a series of criteria are met. Since all real markets exist outside of the spectrum of the perfect competition model, all real markets can be classified as imperfect markets.
In an imperfect market, individual buyers and sellers can influence prices and production levels, there is no full disclosure of information about products and prices, and there are high barriers to entry or exit. A perfect market is characterized by perfect competition, market equilibrium, and an unlimited number of buyers and sellers.
Key Insights
- Imperfect markets do not meet the rigorous standards of a perfectly competitive market theory.
- Characteristics include high competition, significant barriers to entry and exit, varied products and services, and a limited number of buyers and sellers.
- Perfect markets are theoretical and non-existent in the real world; all actual markets are imperfect.
- Imperfect markets include structures like monopolies, oligopolies, monopolistic competition, monopsonies, and oligopsonies.
Delving into Imperfect Markets
All real-world markets are inherently imperfect. This means competition for market share, significant barriers to entry and exit, product diversity, price setters rather than price takers, and imperfect or incomplete information on products and prices are norms.
For example, traders in financial markets do not possess perfect or even identical knowledge about financial products. Traders and assets in financial markets are not perfectly homogeneous. New information is not instantaneously transmitted, and reaction speeds are limited.
While economists refer to perfect competition models, the term ‘imperfect market’ can be somewhat misleading, as it might be perceived as inherently flawed or undesirable. However, the range of market imperfections spans all real-world markets—some are more efficient than others.
Implications and Consequences of Imperfect Markets
Not all market imperfections are harmless or natural. Issues may arise when too few sellers control too much of a market or when prices fail to adjust to significant market changes. These scenarios often fuel economic debates.
Some economists advocate for government intervention to enhance production or distribution efficiency. Interventions can include monetary policy, fiscal policy, or market regulation. Anti-trust laws are a prime example, derived directly from perfect competition theory. Governments may also utilize taxation, quotas, licenses, and tariffs to regulate these so-called perfect markets.
Contrarily, other economists argue that government intervention is not necessary to correct market imperfections, pointing out that government policies can be imperfect too. These economists believe that government actors may lack the right incentives or information to effectively intervene.
Types of Imperfect Markets
When at least one condition of a perfect market is not met, it leads to an imperfect market. Imperfections are prevalent across all industries. Here are the main types:
Monopoly
A market structure where there is only one dominant seller. Products have no substitutes, leading to high barriers to entry. The single seller sets the prices which can change unpredictably.
Oligopoly
Characterized by many buyers but few sellers. These sellers may bar new entrants and set prices together or follow a lead seller in price determination.
Monopolistic Competition
There are many sellers offering similar yet non-substitutable products. Businesses are price makers, competing without significantly affecting each other’s decisions.
Monopsony and Oligopsony
These structures feature many sellers but few buyers. The few buyers manipulate market prices by playing firms against each other.
Imperfect Markets vs. Perfect Markets
Perfect markets are hypothetical constructs with
- An unlimited number of buyers and sellers
- Identical or substitutable products
- No barriers to entry or exit
- Complete information on products and prices
- Price takers with no price-setting power
In reality, markets do not feature unlimited buyers and sellers. Economic goods are heterogeneous due to multiple producers. Thus, diverse goods and preferences that drive imperfect markets prevail.
Perfect markets serve as theoretical models to understand prices and economic incentives but are impractical as real-world scenarios. Expecting real industries to achieve perfect competition is flawed, as no purely competitive industry can maintain equilibrium dynamically. Perfect competition remains a theoretical conjecture rather than an achievable state.
Related Terms: perfect competition, market equilibrium, monetary policy, fiscal policy, government intervention.
