Question

Case Study: Perfect Competition in Credit Card Industry

In 1997, over $700 billion purchases were charged on credit cards, and this total is increasing at a rate of over 10 per cent a year. At first glance, the credit card market would seem to be a rather concentrated industry. Visa, MasterCard and American Express are the most familiar names, and over 60 per cent of all charges are made using one of these three cards. But on closer examination, the industry seems to exhibit most characteristics of perfect competition. Consider first the size and distribution of buyers and sellers. Although Visa, MasterCard and American Express are the choices of the majority of consumers, these cards do not originate from just three firms. In fact, there are over six thousand enterprises (primarily banks and credit unions) in the US that offer charge cards to over 90 million credit card holders. One person's Visa card may have been issued by his company's credit union in Los Angeles, while a next door neighbor may have acquired hers from a Miami Bank when she was living in Florida. Credit cards are a relatively homogenous product. Most Visa cards are similar in appearance, and they can all be used for the same purposes. When the charge is made, the merchant is unlikely to notice who it was that actually issued the card. Entry into and exit from the credit card market is easy as evidenced by the 6000 institutions that currently offer cards. Although a new firm might find it difficult to enter the market, a financially sound bank, even one of modest size, could obtain the right to offer a MasterCard or a Visa card from the present companies with little difficulty. If the bank wanted to leave the field, there would be a ready market to sell its accounts to other credit card suppliers. Thus, it would seem that the credit card industry meets most of the characteristics for a perfectly competitive market.

1. What are the characteristics of perfect competition that are exhibited by the credit card industry?
2. Discuss the price and output condition of a perfect competition.
3. How can credit card companies bring in the elements of monopolistic or imperfect competition in this industry?

And what strategies could the credit card companies use to turn this market into an oligopolistic market?

Answer 1

1. The characteristics of perfect competition that are exhibited by the credit card industry are:

Large number of sellers and buyers- The word 'large number' states that the number of sellers is large enough to render an individual seller's share in the total market supply of the product is insignificant.One seller has no option but to sell the product at the determined price. Here, the credit card industry is so big that an individual company has to sell it at a determined price,hence this industry is a price taker.

Homogeneous product- Products that are identical i all respects like shape,size,color,etc are homogeneous product. Here, an individual can acquire his credit card from any of the company. One may have acquired it from Miami Bank while other person may have acquired it from some other bank.

Free entry and exit of firms- Buyers and sellers are free to enter and exit the market at any time they want. If one firm wants to leave there would be many other firms to enter the market and take its place.

2. As we know, in perfect competition goods produced are homogeneous and hence the buyers and sellers can not influence the market price by either increasing or decreasing the purchase or output. The price in the market is determined by the industry. Hence the firms are price taker and industry is price maker. If any one firm tries to change the price, for example, a firm increases the price, the consumer will acquire the product from some other firm and the firm which increased the price will suffer losses. Other case, if the firm will try to reduce the price, other firms will also do the same which will also lead to losses.

3. In order to bring in the elements of monopolistic competition in this industry, the firms need to bring changes like-

A large number of firms- The number of firms selling similar product is fairly large, but not as large as in perfect competition.

Product differentiation- In this the firms can product different product which are close substitute of each other. The credit firms in the industry can exercise some freedom of monopoly if they produce products which are differentiated.

4. To turn this market into an oligopolistic market the strategies credit card companies can use are-

Non-price competition- Credit card companies should use non price strategies like better customer services, advertising, etc to compete with each other.

Barriers to entry of the firms- As there are few large sellers in oligopolistic market, they give a tough competition and makes it difficult for new firms to enter the industry. Only those who are able to cross the barriers are able to enter.

Few large sellers- The number of sellers in an oligopoly market is small where there are not many sellers. These few sellers account for the industry's sales.