In economic terms, competition is the rivalry among sellers in the same industry to secure the business of buyers through varying marketing elements. Competition may cause sellers to adjust pricing, product, distribution and promotion in order to gain more buyers and increase their profit.
Competition is one of the main drives of the marketplace, and usually breaks into two types: perfect and imperfect competition.
Perfect competition is a market structure where an industry meets these five criteria:
- Each firm sells an identical product
- The firms have no control over pricing – instead, pricing is determined by supply and demand
- There is a relatively small market share for all firms in the industry
- Buyers can make informed purchasing decisions based on complete knowledge about the product and prices of each firm
- The industry provides freedom to enter and exit willingly
In many cases, perfect competition is dictated by the supply and demand in the marketplace. For example, if a good is priced very high and making profits for some businesses, other companies may start producing the same product. This floods the market with supply, therefore lowering the demand and reducing the price. Also, substitutes of goods with varying prices give buyers more control over where they spend their money and how much they spend.
This balance helps to push the invisible hand that keeps an economy efficient.
A perfect competition exists more as a theory than in practice. In most cases, it is the benchmark for which market structures are compared. The closest we have to an industry that displays perfect competition is agriculture. Most of the marketplace structures operate under imperfect competition.
Imperfect competition is whenever a market does not meet the criteria of a pure or perfect competition. All real markets exists outside of a perfect competition model, and therefore can be classified as imperfect. However, there are different forms of imperfect competitions. Three of the most common are:
Monopoly: Only one seller exists, so buyers cannot turn to other firms for products. For example, if a pharmaceutical company holds the rights to one type of medicine, buyers are unable to shop around for different prices and are at the mercy of the seller’s pricing.
Oligopoly: There are many buyers but very few sellers. This structure is seen in the technology or smartphone industries. For example, when it comes to smartphone technology, consumers usually have to choose between Android or iOS. While that gives some choice, it’s not enough to qualify as a perfect competition.
Monopolistic Competition: Many sellers offer similar products for many buyers, but there are no perfect substitutes. An example of this would be the fast food industry, where many companies offer similar products to thousands of buyers, but none of the products are the same.
While a perfect competition exists in theory, every industry has at least one deviating factor that makes it an imperfect competition. However, we can use perfect theory as the structure in which to gauge competition of an industry.