Micro Economics EBAY Case study

About Ebay

EBay was incorporated in 1995 and has grown to become the most successful business on the
Internet (Cohen, 2002). Within ten years, 430,000 small businesses in the U.S. have opened
storefronts on eBay (IBM, 2004). According to EBay’s financial reports, its net profit has
progressively grown more than tenfold from US$90,448,000 at end 2001 to US$1,082,043,000 at
end 2005. On an average day, there are over ten million items listed for sale on eBay. People
visit eBay to buy and sell items in thousands of categories from collectibles like trading cards,
antiques, dolls, and house wares to practical items like used cars, clothing, books and CDs, and
electronics. EBay provides many advantages for buyers and sellers including information on
product availability/competition, comparison price points, access to products otherwise
unavailable, market-determined price points and entertainment (Bosnjak et al, 2006).
Technology driven applications in eBay‟s website (ebay.com) provides shoppers with a range of
evaluation points such as product, price, delivery, and merchant reputation. These applications
aid in improving the efficacy and efficiency of the shopper‟s problem solving and decision
making.

What is perfect competition?

In economic theory, perfect competition occurs when all companies sell identical
products, market share does not influence price, companies are able to enter or
exit without barrier, buyers have “perfect” or full information, and companies
cannot determine prices. In other words, it is a market that is entirely influenced
by market forces. It is the opposite of imperfect competition, which is a more
accurate reflection of a current market structure.

Perfect competition is a benchmark, or "ideal type," to which real-life market

structures can be compared. Perfect competition is theoretically the opposite of
a monopoly, in which only a single firm supplies a good or service and that firm
can charge whatever price it wants since consumers have no alternatives and it
is difficult for would-be competitors to enter the marketplace.
Diagram for perfect competition

 The industry price is determined by the interaction of Supply and Demand,

leading to a price of Pe.
 The individual firm will maximise output where MR = MC at Q1
 In the long run firms will make normal profits.

To make it more clear, a market which exhibits the following characteristics in its structure is
said to show perfect competition:

 Large number of buyers and sellers

There are a large number of buyers and sellers in a perfectly competitive market.
The sellers are small firms, instead of large corporations capable of controlling
prices through supply adjustments. A large population of both buyers and sellers
ensures that supply and demand remain constant in this market. As such, buyers
can easily substitute products made by one firm for another. 

Homogenous product is produced by every firm

They sell products with minimal differences in capabilities, features, and pricing.
This ensures that buyers cannot distinguish between products based on physical
attributes, such as size or color, or intangible values, such as branding.
Free entry and exit of firms
Firms face no sunk costs and entry and exit from the market is feasible in the long run. This
assumption means that all firms in a perfectly competitive market make normal profits in the
long run

Consumers have perfect knowledge about the

market
Consumers have all readily available information about prices and products from
competing suppliers. Information is equally and freely available to all market
participants. Information about the ecosystem and competition in an industry
constitutes a significant advantage. For example, knowledge about component
sourcing and supplier pricing can make or break the market for certain
companies. In certain knowledge- and research-intensive industries, such as
pharmaceuticals and technology, information about patents and research
initiatives at competitors can help companies develop competitive strategies and
build a moat around its products.

In a perfectly competitive market, however, such moats do not exist.

Zero advertising cost

Since there are large number of buyers and sellers and have perfect knowledge about everything in the
market, sellers don’t need to separately advertise any of their products or services.

Perfectly mobile factors of production 

– Land, labor, capital and organization can be switched in response to changing market conditions,
prices and incentives. We assume that transport costs are insignificant

No government intervention
Governments play a vital role in market formation for products by imposing
regulation and price controls. They can control the entry and exit of firms into a
market by setting up rules to function in the market. Such controls do not exist in
a perfectly competitive market. The entry and exit of firms in such a market are
unregulated, and this frees them up to spend on labor and capital assets without
restrictions and adjust their output in relation to market demands.

No transportation costs
In this type of market, companies do not incur significant costs to transport
goods. This helps reduce the product’s price and cuts back on delays in
transporting goods. 

Each firm earns normal profits and no firms can

earn super-normal profits.
No firm can earn abnormal profits or have Total Revenue exceeding Total cost (including both explicit
and implicit costs) in the long run. Why so? If supernormal profits are made, new firms will
be attracted into the industry causing prices to fall. If firms are making a loss then
firms will leave the industry causing price to rise. So only normal profits (ie Total
Revenue equals Total cost) can be earned in the long run.

Every firm is a price taker

A price-taker is an individual or company that must accept prevailing prices in a
market, lacking the market share to influence market price on its own. All
economic participants are considered to be price-takers in a market of perfect
competition or one in which all companies sell an identical product, there are
no barriers to entry or exit, every company has a relatively small market share,
and all buyers have full information of the market. This holds true for producers
and consumers of goods and services and for buyers and sellers in debt and
equity markets.

Does Perfect Competition Exist in the Real World?

In the real world, it is hard to find examples of industries which fit all the criteria of
‘perfect knowledge’ and ‘perfect information’. However, some industries are
close.
1. Foreign exchange markets. Here currency is all homogeneous. Also,
traders will have access to many different buyers and sellers. There will be
good information about relative prices. When buying currency it is easy to
compare prices
2. Agricultural markets. In some cases, there are several farmers selling
identical products to the market, and many buyers. At the market, it is easy
to compare prices. Therefore, agricultural markets often get close to
perfect competition.
 3. Internet related industries. The internet has made many markets closer
to perfect competition because the internet has made it very easy to
compare prices, quickly and efficiently (perfect information). Also, the
internet has made barriers to entry lower. For example, selling a popular
good on the internet through a service like e-bay is close to perfect
competition. It is easy to compare the prices of books and buy from the
cheapest. The internet has enabled the price of many books to fall in price
so that firms selling books on the internet are only making normal profits.

It is often said that perfect competition is a market structure that is out-dated not worthy of study!
Clearly the assumptions of pure competition do not hold in the vast majority of real-world markets.

 Suppliers may exert control over the amount of goods and services supplied and exploit their
market power
 On the demand-side, consumers may have monopsony power against their suppliers because
they purchase a high percentage of total demand.
 In addition, there are always some barriers to the contestability a market and far from being
homogeneous; most markets are full of heterogeneous products due to product differentiation
 Consumers have imperfect information and preferences are influenced by persuasive marketing
 In every industry we can find examples of asymmetric information where the seller knows more
about quality of good than buyer – a frequently quoted example is the market for second-hand
cars!
 The real world is one in which negative and positive externalities from both production and
consumption are numerous – both of which can lead to a divergence between private and social
costs and benefits.
 Finally there may be imperfect competition in related markets such as the market for key raw
materials, labour and capital goods.

Is Ebay an example of perfect competition?

There are several features of eBay which make the market competitive – and perhaps close

to the model of perfect competition.

 Many buyers – thousands of people have access to viewing items listed on eBay. If I sold it in
traditional means, smaller numbers of buyers would mean lower prices for me the seller.
  There are also many sellers who are free to enter eBay.
 Perfect Information. It is easy to search for items which are being sold.
 Freedom of entry. Anyone can enter.

By listing on eBay in an open auction, it makes sure people spend the maximum they are willing to pay
before it becomes more attractive to buy brand new. It is very competitive, and so reduces consumer
surplus.

eBay is a very competitive market, which has led to good selling prices. This suggests an increase in
economic welfare compared to pre-internet.

Selling on eBay is relatively easy, and I get a price close to the original. If there were no internet, selling
would have been harder work (to advertise), and the price would have been lower.

Also, because we know we can sell things on eBay, it encourages us to buy goods, knowing if it isn’t so
good, we can reclaim most of the cost selling on eBay. If there was no eBay, it may discourage certain
purchases because people would fear being stuck with goods they couldn’t sell on.

It is a good example how technology has made certain markets more competitive.

How many characteristics of perfect competition are satisfied with

respect to eBay?
 1. Large number of buyers and sellers

In Ebay there are larger buyers and Sellers are available. Individual buyer and seller are act
independently. Ebay uses online platform so there is huge numbers of consumers for buying and selling
from across globe.

2. Homogenous product is produced by every firm

In a perfectly competitive market for a good or service, one unit of the good or service cannot be
differentiated from any other on any basis.

In Ebay” All firms produce a homogeneous product.” For example, there are many sellers in

eBay have the same product, you can choose one base on service or else.

3. Free entry and exit of firms

For the buyers there is very formalities to register to the market. If the guy have some basic computer
knowledge that is fine to place his product for sale in the market. And Any time the seller can exit from
the market.

4. Zero advertising cost

There is no advertisement cost. People enter the market with buying object in his mind once the
product is available in competitive price buyer makes payment and buy instantly.

Simple Steps in listing free eBay Classified Ads

I. Go to the business tool - opens in new window or tab or select Sell at the top of any eBay page.
II. Enter your item's details.
III. In Format, select Classified Ad.
IV. Duration will be set to 28 days automatically.
V. Select List item.

5. Consumers have perfect knowledge about the market and are well aware of any changes in the
market. Consumers indulge in rational decision making.

Information is universally available as buyers can locate all available products and prices using a simple
search, creating product homogeneity that renders efforts such as advertising from individual sellers
mostly redundant. EBay‟s simple interface allows sellers to easily list products for sale and provide
literary, pictorial, video, and audio information for evaluation. Buyers are able to access all product
descriptions and contact all sellers, while sellers are able to obtain the prices and descriptions of their
competitor‟s products. As a result of this information efficiency, prices on eBay are more competitive.

6. All the factors of production, viz. labor, capital, etc, have perfect mobility in the market and are not
hindered by any market factors or market forces.

No factor can have perfect mobility practically speaking. All factors have partial mobility. Some more
than the other, depending on each company and industry. In case of Ebay, labor and capital are more
mobile than labor and organization.

7. No government intervention

Government is having huge tax policy for ebay. This doesn’t come under Perfect competition

8. No transportation costs

Ebay charges transportation cost or shipping cost based on geographical location and based on local
government policies.

transaction costs in eBay are much lower compared to more traditional mediums.

9. Each firm earns normal profits and no firms can earn super-normal profits.

There are number of competitors for Ebay, i.e, Amazon, Flipkart, Mintra, Snapdeal, etc. Since there are
many number of firms in the e-commerce industry, prices are going down. Ebay follows this
characteristic.

10. Every firm is a price taker. It takes the price as decided by the forces of demand and supply.

Prices in eBay can either be dynamic in the form of current bids in auctions, or in the form of a „Buy It
Now‟ fixed price listings. EBay shoppers are able to search for product listings based on a price range,
and sort them from the lowest to the highest price or vice-versa. This enables them to immediately and
comprehensively compare all prices among sellers, even delivery costs. An important feature for
evaluation is that shoppers are able to obtain a record of the prices in past transactions. This enables
shoppers to conceptualize a subjectively fair price to pay or bid for the item. It has been reported (e.g.
Moschis, 1976; Brown & Reingen, 1987) that prices of completed auctions are determined by bidders
who comprise a reference group that conveys informational social signals about price/value.