A firm or organization is said to have market power over a certain commodity if it has significant ability to influence the market price of the commodity. The extent of market power is defined by the ability to influence the price. The strongest form of market power is monopoly power, where a firm, being the only producer of a commodity (and protected by some barrier to entry) can indulge in monopoly pricing -- it can choose both the price and quantity it produces so as to maximize profits.
The extent to which a firm has market power depends on the following factor:
- The degree of competition and the extent to which goods provided by competitors can substitute for the goods produced by the firm.
- The ability of buyers to resell goods they have bought.
- The transaction costs as well as the extent of information that buyers have: Even in the presence of many close competitors, firms enjoy a little market power simply because buyers lack perfect information and there are costs of locating and transacting with competitors. For instance, a supermarket in a particular geographic area, even though it competes with neighboring supermarkets, has a little market power because there is a cost for buyers to go a little farther to buy the same goods elsewhere after carefully comparing prices.