By Bryan Caplan
When you were taught about perfect competition, what was the underlying interpretation of the model?
1. The model is a good approximation: Markets in the real world work about as well – and in roughly the same way – as the perfectly competitive model says. Regulation is therefore generally counter-productive.
2. The model is a foil: Markets only work well if the model’s numerous extreme assumptions hold, so markets in the real world are at best so-so. Regulation is therefore generally beneficial, or even necessary.
3. The model is a special case: Markets work well when its assumptions hold, but the various forms of “imperfect” competition work well when the perfectly competitive assumptions are violated. Regulation – including regulation to make actual markets better match the perfectly competitive assumptions – is therefore generally counter-productive.
Take lectures, assigned readings, and homework into account when you answer. Please state the best of these three response options in the first sentence of your comment before elaborating or proposing alternative interpretations.
Bonus: If you’ve ever taught the perfectly competitive model, what underlying interpretation did you convey to your students?