MONOPOLISTIC COMPETITION
The monopolistically competitive firm in the short run,
The long-run equilibrium,
Monopolistic VS Perfect Competition,
Monopolistic competition and the welfare of society.
1
Monopolistic competition : a market structure in which many firms sell
products that are similar but not identical.
Describes a market with the following attributes:
•Many sellers
•Product differentation
•Free entry
Monopolistic competition, like oligopoly, is a market structure that lies
between the extreme cases of competition and monopoly, but oligopoly
and monopolistic competition are different.
2
Differences between Monopolistic competition
and Oligopoly
Oligopoly:
there are only few sellers in the market and the small
number of sellers makes rigorous competition less likely, and it
makes strategic interaction among them.
Monopolistic competition:
there are many sellers, each of
which is small compared to the market. These market structure
depart from the perfectly competitive ideal , because each of the
sellers offers a somewhat different product.
3
THE MONOPOLISTICALLY COMPETITIVE
FIRM IN THE SHORT RUN.
The products of the monopolistically competitive firms are
different from those offered by other firms, and it faces a
downward-sloping demand curve. Thus, the
monopolistically competitive firm follows a monopolist’s rule
for profit maximization: it choose the quantity at which
marginal revenue equals marginal cost and then uses
its demand curve to find price consistent with that
quantity.
4
•In panel (a), price execeeds average cost, so the firm makes
profit
•In panel (b), price is below average total cost, so the firm is
unable to make a positive profit, but the best thing that the firm
can do is to minimize its losses
5
THE LONG-RUN EQUILIBRIUM
•
When the firms are making profits, new firms have and incentive to enter the
market, this entry increases the number of products from which customers can
choose, and this entry shifts the demand curves faced by the incumbet firms to
the left. As the demand for incumebent firms’ products falls, these firms
experience declining profit.
•
When firms are making losses, firms in the market have an incentive to exit.
As firms exit, customers have fewer products from which to choose, and this
exit shifts the demand curves of the remaining firms to the right. As the
demand for the remaining firms’ products rises, these firms experience rising
profit (is the declining losses)
6
PROFIT PER UNIT SOLD = Price – Average total cost
The maximum profit is zero only if these two curves touch each other
without crossing.
7
MONOPOLISTIC VS PERFECT COMPETITION
Two differences are notable:
•The perfectly competitive firm produces at the efficient scale(the
quantity that minimizes average total cost), by contrast, the
monopolistically competitive firm produces at less than the efficient
scale .( EXCESS CAPACITY)
•Price equals marginal cost under perfect competition, but price is
above marginal cost under monopolistic competition (MARKUP
OVER MARGINAL COST)
8
MONOPOLISTIC COMPETITION AND THE
WELFARE OF SOCIETY
Monopolistic competition does not agree with all the positive
characteristics of perfect competition.
In addition to the normal loss of monopoly pricing, because of the
markup of price over marginal cost, the number of firms may not be
optimal. In fact, when a firm considers entering the market with a
new product, it considers only the profit it would make, but this entry
has two external effects:
• The externality of the variety of the product: Because consumers
get some consumer surplus from the introduction of a new product,
entry of a new firm conveys a positive externality on consumers.
• The business-stealing externality: Because other firms lose
customers and profits from the entry of a new competitor, entry of a
new firm imposes a negative externality on existing firms.
Firms in perfect competition , producing goods substitutable to each
other and putting a price equal to marginal cost, do not have any of
these externalities.
The possibility that the legislature corrects these inefficiencies is
extremely limited since the inefficiencies are complex and difficult
to measure.
9