How firms compete depends on the structure of the market in which they operate. In perfect competition, there are many buyers and sellers, products are homogeneous, entry and exit are free, information is perfect, and individual firms are price takers. The firm's supply curve in the short run is the portion of its MC curve lying above the AVC curve, and the firm shuts down if price falls below AVC. In long-run equilibrium, free entry and exit drive economic profit to zero, so \( P = MC = \text{minimum ATC} \), and there is no incentive for entry or exit. This outcome is both allocatively efficient (P = MC) and productively efficient (production at minimum ATC).
At the opposite extreme, a monopoly is a market with a single seller, no close substitutes, and significant barriers to entry such as patents, control of key resources, government licenses, high startup costs, or economies of scale. When economies of scale are so strong that one firm can supply the entire market at lower average cost than two or more firms, the result is a natural monopoly. A monopolist maximizes profit at \( MR = MC \) and then charges the price on the demand curve corresponding to that quantity. Because the monopolist must lower the price on all units to sell one more, MR lies below the demand curve, so the monopoly price exceeds MC. This creates a deadweight loss relative to perfect competition, since the monopolist produces less than the socially efficient quantity.
Between these extremes lie oligopoly and monopolistic competition. An oligopoly has a few large firms whose decisions are interdependent; each firm considers rivals' reactions. Cartels such as OPEC involve explicit collusion to restrict output and raise prices, acting as a collective monopoly. The kinked demand curve model explains why oligopoly prices tend to be rigid: rivals are assumed to match price cuts but not price increases, producing a kink in the demand curve and a discontinuity in MR at the prevailing price. Monopolistic competition features many firms selling differentiated products with free entry and exit. In the long run, firms earn zero economic profit but produce with excess capacity, at a quantity below the minimum of the ATC curve. Two common measures of market power are the Herfindahl-Hirschman Index (HHI), the sum of squared market shares, and the Lerner Index, \( L = (P - MC)/P \), which ranges from 0 in perfect competition toward 1 for extreme market power.