The perfect market is the ideal market and, as such, is a theoretical model of a homogeneous market in business and economics. This simplified model is used to examine and understand complex relationships, concepts and relationships. For the sake of simplicity, the influencing factors are deliberately restricted, contrary to economic reality. It is a market form in which only one of the points is changed under otherwise identical conditions, so that the effects on the market conditions can be clearly assigned.
In this lesson you will learn about the perfect market and its characteristics. With the help of the practice questions at the end of the lesson, you can check your current level of knowledge and, if necessary, close knowledge gaps.
- Synonyms: ideal market
- English: complete market | perfect market
When does the perfect market matter?
The perfect market is the condition or prerequisite for the classic relationship between supply and demand and the associated price formation. Therefore, as a model, it is the basis for most other macroeconomic considerations and provides important information for examining imperfect markets. In economic reality, the framework conditions of the perfect market are usually not fulfilled.
What is a perfect market?
Conditions for perfect and imperfect markets
In economics, the perfect market is a model assumption that, among other things, serves as the basis for analyzes of supply and demand and for price formation. The idea of the perfect market goes back to the assumptions of neoliberal / monetarist economics.
Your followers understand this to be an ideal market in which all market participants orientate themselves exclusively on price. This creates a stable balance between supply and demand, which, with a few exceptions, corresponds to the economic optimum. According to this, the ideal markets supposedly create the highest level of economic welfare.
The perfect market is characterized by these framework conditions:
- Largely identical goods
- Lots of buyers and sellers or buyers and sellers
- Transparency in the market so that prices and qualities are known or freely accessible
- No different preferences among buyers
- No barriers to market entry, so that new companies also have easy access to the market
The essential assumption for a perfect market is that the seller and buyer act as price takers. In this respect, it can be assumed that they cannot influence the price, but have to accept it as a given. In reality, perfect markets do not exist, and securities markets correspond most closely to this model.
Features of the perfect market
The perfect market describes a fictitious, ideal market that has certain characteristics.
A perfect market is defined by these five requirements:
- Lots of suppliers and buyers
- Rationality of market participants
- Full market transparency
- Homogeneity of goods
- Rapid reaction from market participants
Several providers face several customers
If several suppliers face several buyers, it is a question of a polypol, which is the prerequisite for a free market entry. It is significant that there are no preferences between suppliers and buyers at the different levels. This means that there are no particular preferences in the behavior of market participants. This applies equally to the personal, temporal, factual and spatial level.
Rationality of market participants
In the case of a perfect market, the ideal of Homo Oeconomicus applies to all market participants. This means that all consumers act to maximize benefits and that personal preferences are absent. In a perfect market all buyers behave without preference, so that there are no preferences for buyers and sellers within the market relations and the conditions of competition are the same for all.
- Personal preferences always exist when market participants are friends, family, sympathetic or long-term business relationships with one another.
- Spatial preferences exist when location advantages are the reason for the deal. Internet marketplaces come very close to the model of the perfect market. This is especially true under the aspect that all providers and buyers are in one place, even if it is only virtual.
- Temporal preferences exist if the reason for the transaction is the fact that the goods are available more quickly, for example due to longer delivery times or different transport routes. In the perfect market, every good is available immediately, so that no time preferences can arise.
This means that in a perfect market there are no location advantages for companies, also no different delivery times or variable transport costs. In a perfect market it is also assumed that every product is delivered immediately and accepted by the customer in a timely manner, so that temporal advantages are also eliminated. The same applies to personal preferences, for example the friendliness of sellers or advertising, which in a perfect market have no effect on consumer buying behavior.
Complete market transparency
Typical of the perfect market is perfect market transparency, which is the prerequisite for rational action on the part of economic agents. This means nothing other than a complete overview of what is happening on the market, with the result that every market participant has knowledge of the prices of the goods on offer.
In reality, this requirement comes very close to comparison portals, although here too there may be differences in knowledge. Examples are different product qualities and hidden costs.
The goods are homogeneous in a perfect market. This means that they are the same and are subject to a standardized quality. There are no differences in terms of appearance, quality or packaging for any of the goods in the market under review. Homogeneous goods are therefore interchangeable because there are no identifiable differences.
A real example of homogeneous goods are banknotes, crude oil and stocks.
Fast response speed
If the market variables are changed, all market participants react immediately. Spatial and temporal differences are eliminated so that they have no influence on supply and demand or on pricing. In fact, infinitely fast reactions on the part of the actors are only possible in theory. Here, too, it is the stock exchanges that are most likely to offer these conditions. The same applies to weekly markets, where consumers act in the same place at the same time, so that the differences in terms of space and time are only minor.
All of the above requirements must be met in order for it to be a perfect market. In reality, however, there is no such market, which is why a perfect market is a theoretical model. If only one or more of the assumptions in the market are incorrect, it is an imperfect market.
The pricing on the perfect market
According to sportingology, the perfect market only exists in theory and is used in particular as a model for the representation of price formation, which is the basis for determining the market equilibrium. For this purpose, supply and demand on the perfect market are represented in a coordinate system.
The starting point is the assumption that a falling price means that the demand for a product increases. At the same time, the supply decreases with a falling price. In order to determine the market equilibrium, the demanded and the offered quantities are shown as functions depending on the price. The equilibrium price is where the two functions intersect and corresponds to the marginal cost.
The sellers in a perfect market make no profits. Instead, there is only the equilibrium price so that providers cannot achieve a higher price due to market transparency. Conversely, buyers who want to pay a price below the equilibrium price will not find any suppliers on the market. Empirically, the price formation takes place faster, the less the real existing market deviates from the model of the perfect market.