Why is a firm a price taker and not a price maker under perfect market conditions?

Under perfect market conditions, a firm is a price taker and not a price maker because the existing price is at the intersection of supply and demand. Any higher price means low sales for the firm as consumers buy from other suppliers. Any lower price means the firm loses money on each sale. The market price includes a sufficient profit to keep suppliers in the market, but it is not so large as to attract new market entrants.

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Before getting into why a firm should be a price taker and not a price maker under perfect market conditions, let’s be clear about what the three terms in the question mean.

Fortunately, these terms shouldn’t be too hard to define because, in many ways, the definition is in the term itself. A price taker accepts or “takes” the given price of the market. They don’t impose a lower or higher price. They’re not trying to control the price. They let the market do the work and yield to what the market determines.

A price maker is much more aggressive. Here, the market isn’t determining the price, but the company or firm is: they "make" the price.

In perfect market conditions, no one company has the power or size to determine the price, so everybody is a price taker: everybody's price is determined by market forces.

The idea of perfect market conditions, or the notion that markets serve as a relatively efficient indicator of value, is a contested issue. Some economists argue that the market does provide a rational model to gauge worth and what people will pay for a given product. Other economists argue that there are myriad other factors to take into account.

When considering perfect competition in reality, think about the current number of big stores (e.g., Walmart and Amazon) and how their size lets them charge lower prices than smaller stores without as many resources. Right now, it seems like firms and companies act like price makers instead of price takers.

Last Updated by eNotes Editorial on January 13, 2021
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As there are many buyers and sellers in a perfectly competitive market, there is fierce competition between firms. In a condition of perfect market competition, then, a firm has no choice but to accept the current equilibrium price in the market. That is what it means to say that firms are “price takers”: they are taking the equilibrium price that the free operation of the perfectly competitive market has given them.

In such a situation, if any firm should raise the price of the goods it sells—if it tries to be a “price maker”—then it will lose sales to its competitors, as the profusion of competing firms means that any of them will easily be able to supply the same goods at a lower price (the market equilibrium). Ease of entry into the marketplace for new competitors will also be a factor in a firm losing market share if it chooses to increase its prices above the prevailing equilibrium.

All of this is a rather convoluted way of saying that in a condition of perfect competition, it's the operation of the market that counts. In other words, the price of a good is determined by the general level of supply and demand in the market and not by the actions of an individual firm.

Last Updated by eNotes Editorial on January 15, 2021
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A firm is a price taker, not a price maker, under perfect market conditions because the existing market price cannot be improved upon. It is the correct price to set the balance between supply and demand and enable suppliers (i.e. the firm) to make a profit. Thus, the firm must take the price set by the market to sell its goods.

If the firm tries to establish its price above the market level, consumers will bypass this particular firm because under perfect market conditions there are multiple other firms selling a similar item at the market price. This means that if the firm tries to charge a premium, unless it can convince consumers that its product offers a differentiated competitive advantage that warrants a premium, people will just purchase the item from other firms.

It also means that if the firm tries to sell the item at a discount to gain market share from its competitors, it will lose money with each sale because the price that has been established by the market under perfect conditions sits at the point of intersection between the two dynamic market forces of supply and demand and incorporates enough of a profit to make it worthwhile for suppliers to maintain sales, but not a wide enough profit to attract new entrants to the market. This is because under perfect market conditions, there are already the right—or perfect—number of suppliers engaged in selling the product.

If the firm tries to sell the product at a premium, it will not gain traction with consumers and if it tries to sell at a discount, it will lose money. Under perfect market conditions, the firm must be a price taker and not a price maker. If there were only a handful of suppliers in the market, which does not characterize “perfect” market conditions, the firm could have more influence on prices.

Last Updated by eNotes Editorial on January 15, 2021
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In perfect market conditions (also called perfect competition) a firm is a price taker because other firms can enter the market easily and produce a product that is indistinguishable from every other firm’s product.  This makes it impossible for any firm to set its own prices.

A price taker is a firm that cannot have any say in setting its own prices.  A price taker simply has to accept the market price.  This is in contrast to a price maker, which can have an influence over the price at which it sells its goods.

In perfect competition, there are two main reasons why a firm cannot get away with setting its prices above the market price.  First, there is no difference between its product and that of every other firm in the market.  Therefore, no one will pay extra for a firm’s product the way that they might pay extra for something like Nike shoes.  Second, if a firm were to succeed in setting a higher price, more firms would enter the market, attracted by the higher profits that were available.  This would increase supply and drive down the price of the firm’s product.

In perfect competition, firms sell homogeneous products and it is easy for a firm to enter the market.  These two factors make it impossible for firms to set their prices above the market price.  This makes them into price takers.

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