Edexcel A-Level Economics A (9EC0) · Theme 3
Specification points
- Efficiency: allocative, productive, dynamic and X-inefficiency.
- Perfect competition, monopolistic competition, oligopoly and monopoly.
- Monopoly power, price discrimination and contestable markets.
Efficiency concepts
- Allocative efficiency — price = marginal cost (P = MC); resources reflect consumer preferences.
- Productive efficiency — production at the lowest point of ATC.
- Dynamic efficiency — innovation and investment over time.
- X-inefficiency — rising costs from a lack of competitive pressure.
The four market structures
| Structure | Firms | Barriers | Long-run profit | Efficiency |
|---|---|---|---|---|
| Perfect competition | Very many | None | Normal | Allocative + productive |
| Monopolistic competition | Many | Low | Normal | Neither fully |
| Oligopoly | Few (dominant) | High | Supernormal possible | Often neither; may innovate |
| Monopoly | One | Very high | Supernormal | Allocatively inefficient |
Key definitions
| Term | Definition |
|---|---|
| Monopoly power | The ability to set price above marginal cost. |
| Price discrimination | Charging different prices to different consumers for the same good. |
| Contestable market | A market where the threat of entry disciplines incumbent firms. |
| Collusion | Firms cooperating to fix prices or output. |
Oligopoly
Oligopolies are marked by interdependence and high barriers to entry. Firms may collude (raising prices, like a cartel) or compete (price wars, non-price competition). The kinked demand curve and game theory (the prisoner's dilemma) explain price stability and the temptation to cheat.
Monopoly and price discrimination
A monopoly can restrict output and charge P > MC (allocatively inefficient), but may gain economies of scale and fund innovation. Price discrimination requires market power, separable markets and different PEDs; it can raise profit and, sometimes, output.
Contestable markets
In a contestable market, even a monopolist behaves competitively because new entrants could arrive if profits are high. What matters is the threat of entry, which depends on low barriers and few sunk costs.
Worked example
Two airlines dominate a route (oligopoly). Each fears a price war (prisoner's dilemma), so prices stay stable and they compete on service instead. If a budget airline could easily enter (a contestable market), the incumbents would keep prices low to deter entry — showing why contestability matters more than the number of firms.
Common exam mistakes
- Confusing the four efficiency types.
- Assuming monopoly is always harmful (note economies of scale and dynamic efficiency).
- Treating the number of firms as decisive rather than contestability.
Exam technique
Compare structures on price, output, profit and efficiency using diagrams, and evaluate using contestability, economies of scale and dynamic efficiency.
Quick revision
- Efficiency: allocative (P=MC), productive (min ATC), dynamic, X-inefficiency.
- Perfect comp → monopoly: fewer firms, higher barriers, more power.
- Contestability: the *threat* of entry disciplines firms.