4.1.1 Spectrum of Competition — Practice Questions

Seven original multiple-choice questions on the spectrum of competition: the four market structures, how perfect competition explains markets and where it falls short, pricing and consumers, and non-price competition. One is a calculation.

7 questions Edexcel B A-Level Multiple choice Model answers included

Not read the notes yet? Start with the 4.1.1 Spectrum of Competition revision notes.

1. 1. Table 1 describes four markets in one county.
   Using Table 1, the market in which a firm must predict how its rivals will react before it changes its price is

   Data interpretation

   Table 1: Four markets in one county

   Market	Number of sellers	Largest seller's share of sales	Products	Entry for a new firm
   Market 1: garden-waste collection	1	100%	No close substitute	Blocked: one firm holds the council's contract
   Market 2: malting barley	800 farms	Under 1%	Identical	Free
   Market 3: nail salons	70	3%	Slightly different	Cheap and quick
   Market 4: builders' merchants	3	40%	Branded	Costly: depots and stock

   Select one answer

   A Market 1.

   B Market 2.

   C Market 3.

   D Market 4.
   Show model answer

   Answer: D (Market 4.). Market 4 has three sellers, the largest with 40% of sales, and entry is costly → it is an oligopoly.
   Each merchant is big enough for its price to affect its rivals' sales. A price cut is likely to be matched, and a price rise may leave it on its own → before it acts, it must predict how the other two will react. This is interdependence.

   Why the other options are wrong

   • A — Market 1 has a single seller, so it is a monopoly. With no rivals, there is no reaction to predict: it sets its own price.
   • B — Market 2 is close to perfect competition. Each of 800 farms sells an identical crop and has under 1% of sales, so it is a price taker. No farm's choices affect any other farm.
   • C — Market 3 is monopolistic competition. Each salon has about 3% of sales, so a change in its price barely affects any one rival. It keeps its prices close to rivals' but does not need to predict their reaction.

2. 2. A town has 25 dog groomers. Each offers its own mix of styles and services, and a new groomer can start with a van and a few tools.
   The groomers are an example of imperfect competition because

   Definition in context

   Select one answer

   A Each groomer has some power over its price.

   B Each groomer sells an identical service.

   C Each groomer's sales depend on its rivals' reactions.

   D New groomers face high barriers to entry.
   Show model answer

   Answer: A (Each groomer has some power over its price.). Imperfect competition is any market that is not perfectly competitive, so firms have some power over their price.
   Each groomer's service is slightly different → some customers prefer it → it can charge a little more than rivals without losing every customer. With many firms and low barriers, this is monopolistic competition, one form of imperfect competition.

   Why the other options are wrong

   • B — Identical products are a feature of perfect competition, where firms have no power over price. The stem says each groomer offers its own mix of styles and services.
   • C — That is interdependence, the mark of an oligopoly. With 25 small groomers, one firm's price barely affects any single rival.
   • D — The stem says a new groomer needs only a van and a few tools, so barriers are low. Low barriers are typical of monopolistic competition.

3. 3. Very many small fishing boats catch either mackerel or herring, and each can switch between the two from one season to the next. After a change in tastes, the price of mackerel is above the average cost of catching it and the price of herring is below the average cost of catching it.
   Sketching the two markets, the most likely outcome over the next few seasons is that

   Applied reasoning Sketch to solve

   Select one answer

   A Both prices stay where they are, as every boat is a price taker.

   B Herring supply falls and mackerel supply rises, until both earn normal profit.

   C Herring supply rises and mackerel supply falls, until both earn normal profit.

   D Mackerel boats keep their supernormal profit, as they are already established.
   Show model answer

   Answer: B (Herring supply falls and mackerel supply rises, until both earn normal profit.). This is how perfect competition explains the way markets move resources.
   Mackerel: price above average cost → supernormal profit → herring boats switch to mackerel → mackerel supply shifts right → the price falls until it equals average cost → normal profit.
   Herring: price below average cost → losses → boats switch out → herring supply shifts left → the price rises until it equals average cost → normal profit.
   Boats and crews have moved towards the fish consumers now want more of.

   Why the other options are wrong

   • A — Each boat takes the market price, but the market price itself moves when supply changes. As boats switch catch, both supply curves shift and both prices move.
   • C — This has the signals the wrong way round. Supernormal profit attracts boats into mackerel, and losses push them out of herring.
   • D — Being established is no protection here. With no barriers to entry, herring boats can switch to mackerel, and supernormal profit is competed away.

4. 4. In a market close to perfect competition, one apple grower finds a way to store apples that halves the number that spoil. Within a season, every rival grower has copied it.
   The most likely result for the grower who found it is that

   Applied reasoning

   Select one answer

   A It can charge more than rivals, as buyers now prefer its apples.

   B It is forced out, as rivals' costs are now lower than its own.

   C It keeps supernormal profit in the long run, as its costs are lowest.

   D Its supernormal profit soon ends, leaving little reward for the idea.
   Show model answer

   Answer: D (Its supernormal profit soon ends, leaving little reward for the idea.). This is one of the limitations of perfect competition.
   For a short while the grower's costs are below its rivals' → supernormal profit. But information is perfect and there are no barriers → rivals copy the method → everyone's costs fall → supply rises and the price falls to the new, lower average cost → normal profit again.
   Any idea is copied at once, so firms have neither the profit to fund research nor much reward for doing it.

   Why the other options are wrong

   • A — Apples of a given grade are homogeneous: one grower's are the same as any other's. The new method cuts spoilage, not the quality buyers see, so there is no reason to pay more for this grower's apples.
   • B — Every rival has copied the same method, so their costs have fallen to the same level as this grower's, not below it.
   • C — Its cost advantage lasts only until rivals copy the method, which takes a single season. After that, entry and copying compete the supernormal profit away.

5. 5. Twenty years ago, twelve small glassworks supplied a region with glass bottles. Today two large firms with automated furnaces supply almost all of them, and a new furnace would cost over £100 million. After allowing for inflation, bottles are cheaper than they were twenty years ago.
   The best explanation is that

   Applied reasoning

   Select one answer

   A Economies of scale cut costs by more than market power adds to price.

   B The threat of new firms entering keeps the two firms' prices down.

   C The two firms are price takers, so they must accept the market price.

   D Their prices are stable, as each fears a price war with the other.
   Show model answer

   Answer: A (Economies of scale cut costs by more than market power adds to price.). Less competition usually means higher prices, but the effect depends on economies of scale.
   Automated furnaces and very large output → much lower average cost than twelve small glassworks could reach → even with a margin added for market power, the price is below what the small firms charged.
   The two firms have market power, but their costs are so much lower that consumers still pay less.

   Why the other options are wrong

   • B — A new furnace costs over £100 million, so entry is slow and costly. The market is not contestable, and the threat of entry is weak.
   • C — Two firms supplying almost a whole region are an oligopoly with power over their price. Price takers are found in perfect competition.
   • D — Stable prices explain why prices do not change from year to year, not why they are lower than twenty years ago. Prices can be stable at a high level.

6. 6. A chain of climbing centres charges each member £35 a month, and each member costs it £10 a month in staff time and equipment wear. It is considering a loyalty scheme that would cost £36,000 a year to run.
   To cover the cost of the scheme, the number of members it must keep for a year who would otherwise have left is

   Calculation

   Select one answer

   A 86

   B 120

   C 300

   D 1,440
   Show model answer

   Answer: B (120). A loyalty scheme is non-price competition, and its catch is cost. Each member it keeps adds a contribution, not the whole £35.
   Contribution per member per month: £35 − £10 = £25.
   Contribution per member per year: £25 × 12 = £300.
   Members needed: £36,000 ÷ £300 = 120.
   If the scheme keeps fewer than 120 members who would otherwise have left, it costs more than it brings in.

   Why the other options are wrong

   • A — This divides by the yearly fee, £35 × 12 = £420, giving 85.7. It forgets that each member also costs £10 a month, so only £25 a month goes towards the scheme.
   • C — This divides by the yearly cost of each member, £10 × 12 = £120. The scheme is paid for out of what each member adds, which is the fee minus that cost.
   • D — This divides £36,000 by the monthly contribution of £25. The scheme costs £36,000 a year, so it has to be set against a full year's contribution, £300.

7. 7. One company runs the only ferry to an island. The island's harbour has a single berth, which the company has leased for 30 years.
   Compared with a route served by several ferry companies, this company is most likely to

   Applied reasoning

   Select one answer

   A Charge fares above cost and keep supernormal profit.

   B Charge the market fare, as it is a price taker.

   C Keep its fares stable, as rivals would match any cut.

   D Set fares close to average cost to deter new entrants.
   Show model answer

   Answer: A (Charge fares above cost and keep supernormal profit.). The company is a monopoly: one firm, no close substitute and a 30-year lease that blocks any rival.
   No close substitutes → the firm sets its own price → it can raise fares above cost → barriers stop rivals entering → it keeps the supernormal profit.
   Islanders pay more and have no other ferry to switch to.

   Why the other options are wrong

   • B — A price taker accepts a price set by many sellers in a market. With only one ferry company, there is no market price to take: the company sets the fare.
   • C — Matching price cuts is how rivals behave in an oligopoly. This company has no rivals on the route.
   • D — Firms keep prices close to average cost when entry is easy. Here the only berth is leased for 30 years, so there is no threat of entry to deter.