Certified Pennsylvania Evaluator Practice Exam

What is the effect of excessive competition in a market?

1. Increased market stability

2. Higher profits

3. Lower profits

4. More investor interest

The correct answer is: Lower profits

Excessive competition in a market typically leads to lower profits for businesses. When many firms compete for the same customers, they often engage in price wars, undercutting each other's prices to attract consumers. This aggressive pricing strategy can drive down profit margins significantly. In addition, as competition intensifies, companies may need to increase spending on marketing and innovation to maintain their market share or differentiate their products. These added expenses can further squeeze profits. Moreover, with many players in the market, supply can often exceed demand, contributing to an oversupply situation which further reduces prices and consequently profits. In contrast, increased competition is less likely to lead to increased market stability or higher profits, as the dynamics of market forces work against these outcomes. While excessive competition may attract more investor interest initially, as prospects for higher returns in a competitive market are evident, it often ultimately leads to lower profitability across the industry as competitors fight for a diminishing share of consumer spending.