Perfect competition is so called due to the existence of a set of conditions that make this kind of competition perfect. It is defined by the existence of infinite suppliers in the market who sell a homogeneous product.
As such, there is no supplier who is perceived as a competitor by the other, because the product is the same, and so are the prices. The competition that occurs under such circumstances is impersonal, and therefore, ideal.
Market power is not bestowed in the hand of the consumer or the producer. Though the presence of perfect competition in any market structure has been found to be rare, it is used as a reference to understand the processes of other kinds of imperfect competition types that exist in any economy.
The prime characteristic of perfect competition is the existence of one single product that is sold by all suppliers at a common price, with the quality of the product being the same. This implies that the supplier the product is purchased from does not affect the buyers, due to the same price and quality.
Innumerable Buyers and Sellers
The number of buyers and sellers in the market are infinite. Since only one product is being sold in the market, no single buyer nor a single seller can determine or influence its price. The price is determined by the market as a whole, depending on the total demand and requisite supply of the product in question.
For instance, the process of producing or growing wheat is similar, and so is the final product. As such, wheat prices are usually similar everywhere. Only a drastic change in the demand and supply of wheat can cause its prices to be altered.
Clarity of Information
The buyers are completely aware of and are exposed to information about the production process and its economics. Thus, the market conditions are known to everyone, and this knowledge causes the price to remain constant among all suppliers.
Neither the buyers nor the sellers incur any costs in the transactions that occur among them. That is to say, when a buyer buys, he does not incur any cost apart from the cost of the product, where similarly, the supplier does not incur any cost while selling the product to the buyer. This is known as perfect mobility.
In perfect competition, suppliers only aim for profit maximization. They are not concerned with customer retention and revenue maximization.
Profit maximization is determined by the quantity they sell. When the marginal cost, or the cost incurred by the production of a single unit of the product is equal to the marginal revenue, that is the revenue attained from the sale of this single unit of product, a producer will stop producing the product.
This is a stage where the profits are maximized, and losses are minimized. The profit is a component of the entire cost structure, which, if not achieved, causes the supplier to exit the market.
No Barriers to Entry and Exit
Every supplier has a relatively small market share due to the existence of one single product being sold by different suppliers. As such, any supplier is free to enter the market, and exit when he wishes to. The absence of such barriers does not affect the prices, as ideally, there is always a substitute for a supplier who enters or exits the market.
The only type of market that comes close to one that has perfect competition is the agricultural market, as the products there are similar, and thus, the prices also remain similar overall.
Perfect competition has been used as the foundation of price determination for several product markets, but has come under severe criticism due to the passive nature of the buyer as well as the seller in such a structure.
Also, it allows only for profit maximization, but no active increase in profits and welfare by employing other methods such as advertising or cost-cutting.