Definition: Competition, in economics, is defined as the effort of enterprises to be leaders in their industry and increase their market share. In other words, it’s when one business tries to win over another business’ customers or clients by offering different products, better deals, or by other means.
What Does Competition Mean?
In microeconomics, though, it is classified into the perfect competition that forces commercial companies to expand their product line and offer consumers a greater selection of first-rate products and the imperfect competition.
Perfect competition assumes:
- the existence of many companies that sell a homogenous product
- the existence of many buyers
- the existence of informed consumers and suppliers
- no barriers to entry / exit
- no price intervention
- no government intervention
- free movement of factors of production
- companies seeking for profit maximization
Although competition ensures the best allocation of resources in view of the income distribution, it does not ensure that the goods are produced and distributed in accordance with the needs of society, due to large income disparities.
Let’s look at an example.
When perfect competition exists in a sector or an industry, the price of a product is determined by the total demand and supply for this product. In long-term, the price of a product tends to be equal to the minimum average cost. In the short-term, the price of the product is determined only by the market and it is equal to the marginal cost.
Since the company X operates in the perfect competition, it cannot influence the price of the product. Given that each company seeks to maximize its profit, how can the company X determine the level of production that will ensure either profit maximization or losses minimization?
The first way is to calculate the total costs and the total revenues by multiplying the quantity by the price of the product.
The second way is to compare the marginal costs with the marginal revenues for different levels of production and to select the level of production that equates the two, thereby maximizing profits or minimizing losses.