Different Market Structures: three questions to try now
Real past-paper questions, the answer key from the mark scheme, and the explanation that goes with it. No account needed to answer them.
Question 1
The table provides some details of the soft drinks industry in a country. number of firms 250 number of brands 1000 5 firm concentration ratio 65% Which market structure best describes the country’s soft drinks industry?
Answer: C.
The number of firms is the distraction here and the concentration ratio is the evidence. Five firms out of 250 taking 65% of sales means a few large sellers dominate while the remainder share what is left, which is oligopoly. The 1000 brands fit that same picture, since competing through product differentiation is how these firms avoid competing on price.
The other structures are ruled out by the same figure. A monopoly (A) needs one firm. Perfect competition (D) needs no firm big enough to matter, so five of them could never reach 65%. Monopolistic competition (B) has many firms of broadly similar size, which that ratio contradicts.
The other structures are ruled out by the same figure. A monopoly (A) needs one firm. Perfect competition (D) needs no firm big enough to matter, so five of them could never reach 65%. Monopolistic competition (B) has many firms of broadly similar size, which that ratio contradicts.
Question 2
A firm has set a low price in the short run to act as a barrier to entry for new firms entering the market.
This is an example of which pricing strategy?
Answer: A.
The correct answer is A: limit pricing.
Limit pricing means setting price low enough that a potential entrant cannot expect to cover its costs, so entry is deterred before it happens. The incumbent sacrifices some short-run profit in exchange for keeping the market to itself, and the strategy works because the incumbent's costs are lower, through economies of scale or accumulated experience, so a price that is merely thin for the incumbent is loss-making for a newcomer. It is a barrier to entry created by conduct rather than by technology or law, which is exactly how the question frames it.
Why the other options are wrong:
Limit pricing means setting price low enough that a potential entrant cannot expect to cover its costs, so entry is deterred before it happens. The incumbent sacrifices some short-run profit in exchange for keeping the market to itself, and the strategy works because the incumbent's costs are lower, through economies of scale or accumulated experience, so a price that is merely thin for the incumbent is loss-making for a newcomer. It is a barrier to entry created by conduct rather than by technology or law, which is exactly how the question frames it.
Why the other options are wrong:
- B, predatory pricing, is the closest distractor. It also involves a low price, but it is aimed at driving out a rival already in the market, typically by pricing below cost until the competitor fails, after which price is raised again. The question specifies preventing new firms from entering, which is deterrence rather than elimination.
- C, price discrimination, charges different prices to different consumers for the same good according to their willingness to pay. It is a way of extracting more revenue, not of deterring entry.
- D, price leadership, is a form of tacit collusion in oligopoly where a dominant firm sets the price and rivals follow. It coordinates existing competitors rather than excluding new ones.
Question 3
In a perfectly contestable market, entries and exits are cost-free.
In reality, why is this not the case with some firms in contestable markets?
Answer: A.
The correct answer is A: firms cannot recover all fixed costs if they cease operations.
Perfect contestability requires zero sunk costs: costs that cannot be recovered on exit. In reality much investment is at least partly sunk: specialised machinery has little resale value, advertising and brand-building spending is gone once spent, and staff training walks out of the door with the staff. A potential entrant knows that if things go badly it will lose that money permanently, so the hit-and-run entry that disciplines a contestable market becomes far less attractive. Incumbents can therefore sustain some abnormal profit without attracting entry.
Why the other options are wrong:
Perfect contestability requires zero sunk costs: costs that cannot be recovered on exit. In reality much investment is at least partly sunk: specialised machinery has little resale value, advertising and brand-building spending is gone once spent, and staff training walks out of the door with the staff. A potential entrant knows that if things go badly it will lose that money permanently, so the hit-and-run entry that disciplines a contestable market becomes far less attractive. Incumbents can therefore sustain some abnormal profit without attracting entry.
Why the other options are wrong:
- B, all firms operating at the equilibrium level of output, describes a state of the market rather than a cost of entering or leaving it. It says nothing about recoverability.
- C claims large firms do not have to increase capital to grow. This is false in general, and in any case it concerns expansion by incumbents rather than the cost of entry or exit.
- D claims multinationals always benefit from economies of scale. "Always" is too strong, and scale economies are a barrier to entry in the conventional sense rather than a departure from cost-free exit, a different mechanism.
What this practice covers
These questions are drawn from past CIE 9708 papers and filtered to different market structures. You answer, you find out immediately whether you were right, and you get the reasoning for the correct option and for each distractor. Wrong answers go to a mistakes locker so you can come back to exactly those.
Practice is free. You need an account only so your progress and your mistakes are still there next time.
What examiners see students get wrong here
These are the errors that cost marks on different market structures, taken from our own topic notes. Read them before you practise and you will recognise the traps in the questions.
- Using MC = MR to find price. It finds output; price is read from AR.
- Treating monopoly profit as guaranteed. Barriers allow persistence, but demand and cost determine whether profit exists.
- Calling the whole MC curve a competitive supply curve. The short-run supply segment is MC above minimum AVC.
- Confusing shutdown with exit. Shutdown is a short-run zero-output decision; exit is long-run departure.
- Saying monopolistic competition is productively efficient in the long run because it earns normal profit. Normal profit does not imply minimum ATC.
- Equating concentration with collusion. High concentration can facilitate coordination but does not prove it.
- Treating a natural monopoly as any legally protected monopoly. Natural monopoly is a cost condition.
- Assuming many firms means contestability. Contestability concerns entry, exit and sunk cost.
Revise it first
If any of the above is unfamiliar, work through the notes before practising: Different Market Structures revision notes.