Often real estate agents are dealt with daily. When living in the small city of Brisbane, California, finding the right real estate agency was a chore within its self. When looking for a place to live or rent, do you seek a larger well-known agency or a smaller, up-and-coming agency or a mom and pop agency? One of the main points of this paper is analyzing the extent to which real estate agencies match characteristics of a perfectly competitive industry. Next, the pros and cons of the industry, which concerns the significance of using producer and consumer surplus concepts.
Countless papers will argue over which market structure real estate agencies fall under. Coiacetto (2006) argues, 'that it is not necessarily a competitive industry and, in some instances, can be highly oligopolistic.' This paper will not state which structure market real estate agencies fall under; only how agencies fall into a perfectly competitive industry.
What is the real estate industry? It is the buying and selling of residential real estate, commercial real estate, and industrial real estate. Residential real estate has been on the rise for several years; in 2019, the median home price was roughly $315,000, as a gross residential real estate is valued over $27 trillion (DePersio, 2020). It will continue to push the residential real estate for years with the younger generation of Millennials seeking urbanization living or big city living.
Commercial real estate is the sector of real estate that is used for business purposes. The primary type of business in commercial real estate is shopping malls, office space, retail, and other business purposes. Even though there is a price fluctuating in global economics, investors are hesitant to continue investing or investing in commercial real estate. In 2018, the commercial real estate of around $16 trillion.
Industrial real estate is the real estate sector in which properties are used for factories, warehouses, and manufacturing. In 2019, industrial real estate closed out on a positive but will see a rise in rent in the next few years.
When looking for housing, some times tend to be better for buying over others. The housing market is like any other trend in the market for other goods and services. STEWART, J. (1972) stated that two ways could be looked at: the long periods of alternating advance and stagnation which identify economic development, and the shorter waves in business that are called 'industrial fluctuations' or 'business cycles.'
GAO (2005, pg 8) says that the real estate industry does have competitive attributes. However, wit a large number of agencies competing for a listing, multiple factors can influence the degree of price: level of service, quality, and reputation than on the price. While looking at the market, over time, the brokerage fees have been seen to be lacking, and commission rates are staying the same.
The entry into the real estate industry is almost free (Goolsbee, 2005), costing the applicate a $100 and a class to get a license. With having thousands of agencies operating within the industry and monthly, thousands are receiving their brokerage licenses. The zero-profit predicts when the housing prices rise, so will the number of new agencies, causing it harder to obtain new clients. The products that are sold by real estate agencies are not uniformed in ways of terms of their location, features, building, and financing.
While new firms enter the market, prices may increase, the number of houses decreased. Nevertheless, it is not guaranteed the real estate agents will earn more money. In contrast, the prices of the agents' charge increase, but the number of houses the agent sells do not change. (Goolsbee, 2005) stated that a rise in housing prices in an area has no significant impact on the brokers' average wage in that market. Having no barriers entry in a market means not having a substantial profit.
Perfect competition or pure competition market is considered to be theoretical because it does not exist in the world. For economic sake, it would mean 'ideal type' because the markets can be compared and contrasted. For a company or product to fall under this model, it must have several firms, comparable products, and easy exit and entry levels (McTaggart, 1992).
In graph 1, concerning real estate agencies, it is shown that it fits all three markets mentioned but is more influential in a perfectly competitive market. It is straightforward for agencies to enter into real estate with limited restraints.
In perfect competition, a firm only has one decision to make; the quantity output needed to maximize profit. Graph 2 illustrates real estate agency activities – concerning an increase in price. When the price is increased, the quantity also increases from Q1 to Q2. Thus, the estate agents will continue to make a healthy economic profit when the new price is above the SRATV. When the price of real estate products is not affected by the entry or exit, real estate agents will fall under the long-run- supply curve (shown in graph 2).
While the demand in the industry increases the equilibrium price, the firm earns an above-average economic profit, making the business look more attractive. As shown in graph 2, there is an increase in supply (S1 to S2) while establishing an equilibrium price E3. A way to stop new firms/real estate agencies from entering the market, all firms need to earn zero economic profit. (Layton, 2005). It needs to look at how prices increase, the demand decreases, which in turn increases the competition to gain more clients. Therefore, real estate agencies would need to make roughly the same amount in areas where prices have not amplified (Goolsbee, 2005).
It is expected for any industry, but especially for the real estate industry, commodity markets are conventional when the product is in demand. The product or products in which are driving the commodity prices have to be universal to all markets. (Thoma, 2008) stated that
what drives the price around can not be unique to a particular market (unless it can somehow bleed over into other markets.) While the movements have a familiar likeness in character but have individual differences between them. Like any other industry in the real estate industry, there is a short-run and long-run supply curve. Both the long and short-run play a significant roll in how the real estate industry has been performing.
(Significance of Short-Run and Long-Run Cost Curves in Economics, n.d.) stated a firm could vary its output by varying only the amount of variable factors, such as labour and raw material. Thus, fixed factors, such as managing personnel and factory buildings, can not be altered. To be able to increase production in the short-run, the firm must hire more employers or buy additional products in the real estate industry case (residential property, industrial property, and commercial property). In the graph below, there is a new short-run cost curve for every new change in operation. There is a clear indication of the product is rising and falling. The SAC is the correspondence to the different scale of operations, with the output of the average cost being the minimum, or also known as the optimum output.
When looking at the long-run, the supply curve tends to be more elastic. This tends to happen because there is more time to be able to respond. In industries such as agricultural goods,
the higher the demand makes it easier to expand the product by bringing new land into production and growing existing firms. Only the long-run can be altered. It is shown in the graph below that the long-run average cost curve is tangent with the SAC, making the LAC a 'U' shape. The long-run curve is less pronounced and flatter, causing the curve to have the nickname 'envelop.' The reason that the LAC is flatter is that there is that the fixed cost can be varied and is going to cost lower than SAC.
There are five types of economic efficiency: Allocative, Productive, Dynamic, Social, and X-efficiency. The two that are going to be talked about in this paper are allocative and productive.
Allocative efficiency is the amount consumers' are willing to pay in concerning the cost of goods and services. The price should equal the marginal cost of production; hence, the optimal outcome will be achieved when the marginal cost (MC) equals the marginal benefit (MB). Therefore, allocative efficiency deals with making mutually beneficial trades (Lee, 2005). Allocative efficiency is found in perfect competition. Firms in perfect competition do not have enough market power to raise prices.
Productive efficiency works with technological efficiency, with optimal combination inputs producing maximum outputs at minimum costs (Lee, 2005). In this economy, no firm can produce more than one product or service without reducing the production of another; however, if there is a lack of competition of produces slacking and inadequate production, society will incur welfare losses (Walker, 2006).
Consumer welfare is when both the productive and allocative efficiencies are established within competing industries. When the surplus matches the paid price of a product and the inclination to pay the amount, it bridges consumer welfare and consumer surplus. Consumer surplus reaches maximum peek as consumer welfare is enhanced (The Skeptical Regulator, 2003).
It is vital to create equilibrium for all producers when the product's market price equates to the marginal cost of the product. As explained in allocative efficiency, When the market price is notably higher than the marginal cost for the seller, producing extra units is another way for profits to stay in a positive margin of sale. Lastly, when firms make healthy economic profits under perfect competition with free entry and exit, it conveys how the market price must equal the average cost of all firms and marginal costs (Walker, 2006).
Perfect competition is considered the ideal state; thus, all firms that make zero economic profit will remain in business. Therefore the assumption is that firms with similar resources can make an economic profit through 'anti-competitive' behavior. For example, advertising harms the consumer's choice in an attempt to weigh the difference between products. Products and services that provide additional information that weighed against the gain to the consumers' decisions for a better choice (McTaggart, 1992, 320).
It is evident that real estate agencies are very similar to a perfectly competitive market from the comparisons of perfect competition and real estate agencies. What separates the characteristic of the two is the diversity of products produced by real estate agencies. Therefore, real estate agencies fall into the constant-cost industry or perfect competition, with the lack of constraint of entry and exit, which does not affect the products' price.
Similarly, welfare implications also fall under perfect competition - when sellers increase output to maximize profits, consumers are willing to pay. Furthermore, in perfect competition, it indicates that the marginal cost must equal market price and average cost.
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