Understanding the ethical considerations of competitive markets

A perfectly competitive free market is distinguished by many small firms that produce homogeneous products and have no influence on the price of the products they sell. Buyers and sellers incur no costs at all for the exchanges they make. Besides, the existence of many consumers who are both willing and able to buy the products at a certain price and of many sellers who are both willing and able to supply the products at a certain price makes the competitive free market an environment with low entry and exit barriers.

In the context of perfect competition, profit maximization occurs as a result of product efficiency because firms sell at a price where marginal costs equal marginal revenues. A firm’s price covers only its marginal costs, which are the variable costs incurred for the production of extra units of output such as fuel, inventory, materials and labor. On the contrary, fixed costs are not taken into account into pricing because they are associated with plant and equipment. Also, consumers and investors have perfect information about a firm’s pricing and production in order to identify profitable investment opportunities.

The theory of pure and perfect competition suggests that markets are perfect only if they possess above characteristics. Besides, firms should produce valuable information without engaging into advertising and should operate into this perfectly ethical and free environment at their own potential.

The ethics of competition is a concept of social efficiency and as such it follows the fundamental laws of marginal cost-pricing principle. This pricing system yields the optimum allocation of resources assuming that all producers price their goods at a price that any consumer can buy at the marginal cost of production. However, marginal cost has not always been promoted on welfare grounds.

In effect, the theory of pure and perfect competition is irrelevant to all industries and markets. Although theoretically it is perfect and contains all scientific evidence to pass off as ideal, in practice, it doesn’t meet the criteria for the established theory of market fairness and ethical justice in competitive markets. Instead, there is a lag between theory and market facts.

The ethical conduct of organizations is mostly manifested through the individual ethical behavior of their top management. A free market economy that promotes economic growth in the context of perfect competition should support the least-advantaged members of the society by inherently absorbing inequalities and social unfairness. However, the recent subprime financial crisis has proved that the CEOs of Lehman Brothers, Bear Stearns and AIG considered it ethical to get huge compensations ($34ml, $38ml and $14ml respectively) for ruining their organizations, at the same time that their employees were losing their jobs and their clients were losing their investments. Obviously, the marginal cost-pricing principle and the fundamental principles of the theory of pure and perfect competition were detached from their ethical base in the name of short-term profit and inconsiderate of the long-term impact on the US and possibly the global economy.

On the other hand, large corporations exploit their right to equal access to industry, market, products, information and investment advice. However, the competitive conditions do not allow them to sustain their competitive advantage and maintain their merit as global players in their industry. Advertising and promotion are tools that facilitate the effort of business organizations to convey their message to their customers and enlarge their customer base aiming to enhance their profitability and remain competitive and viable. If perfect competition denies them the right to promote their products and services so that they are not observed as ‘market failures’, they practically are denied of their right to offer to society. And if they fail to offer to society, governmental intervention takes over as a panacea to, ultimately, enforce competition and meet the requirements of the theory.

Conclusively, in a perfectly competitive market ethical considerations are widely accepted as part of a broader cultural sensitivity that requires organizations to work towards perfection and morality. Unfortunately, this is not always the case. In most of the cases, unethical business conduct is closely associated to corporate or individual goals of the organizational members.