Tuesday:
1. Module 67 – monopolistic competition
a. Notes
i. Goals =
1. how are prices and profits determined in this system? Short run and long?
2. How CAN it (not by definition) lead to inefficiency and excess capacity?
ii. Monopolistic = combination of perfect competition and a monopoly (istic = like/as)
1. PPT slide with spectrum of market models
2. Explain perfect competition’s characteristics for me
3. Youtube video on monopolistic competition / perfect competition – video Monopolistic
Competition, user Economics Online
4. Like perfect competition in some ways
a. Many firms exist, but not as many as in perfect competition (like, sort of)
i. Dozens vs hundreds (oligopoly = 2 or 3)
b. Product is differentiated (unlike in perfect competition?) -> next module
i.
Physical product differentiation, where firms use size, design, colour,
shape, performance, and features to make their products different. For
example, consumer electronics can easily be physically differentiated.
ii.
Marketing differentiation, where firms try to differentiate their
product by distinctive packaging and other promotional techniques. For
example, breakfast cereals can easily be differentiated through
packaging.
iii.
Human capital differentiation, where the firm creates differences
through the skill of its employees, the level of training received,
distinctive uniforms, and so on.
iv.
Differentiation through distribution, including distribution via mail
order or through internet shopping, such as Amazon.com, which
differentiates itself from traditional bookstores by selling online.
c. Each firm can set price of their product (like perfect competition, or unlike?)
d. No barriers to entry or exit (like)
5. Unlike an oligopoly
a. Little opportunity for collusion because too many firms (more than an oligopoly,
less than perfect
b. Collusion example = price fixing, cartels, OPEC
6. Examples of monopolies = local market for restaurants or groceries or clothing (assume
no one will travel very far or use internet or catalogs)
iii. Competition in short run
1. ***profits/losses in short run do not last into long run because of easy entry and exit
from the market
2. Differentiated product means demand for it is downward sloping, why?
3. Demand is only horizontal (elastic) in perfect competition because of identical products
 price-taking behavior
4. Firm maximizes product by finding Q* where MR=MC. (marginal revenue = marginal
cost) (Q* = equilibrium)
5. DEFINITION of 'Marginal Revenue - MR' = The increase in revenue that results from the
sale of one additional unit of output. Marginal revenue is calculated by dividing the
change in total revenue by the change in output quantity.
6. Def of marginal cost = the change in the total cost that arises when the quantity
produced has an increment by unit. That is, it is the cost of producing one more unit of a
good.
7. P* is found by going vertically to the demand curve. (P* = market price)
8. Rectangle of profit found by locating ATC (average total cost) at output Q*.
9. Profit if P*>ATC
a. MR decreases, MC increases, Q* is where they intersect
b. D decreases, follow Q* up to D, that forms right side of profit rectangle
10. Graphs this, how do they change when the variables change, explain reason why
iv. Competition in long run
1. What if profits are being made in a field?
a. Short run profits attract entry into market
b. D and MR for existing firms declines (shifts left) because more similar products
available to same # of consumers
c. Weaker demand causes prices to fall
d. Lower prices = profits fall (smaller profit rectangle)
e. Entry stops when normal profits are made (breaking even, or close to it)
2. BUT what if losses are being incurred?
a. Short run losses prompt exit from market
b. D and MR for remaining firms rises (shifts right), why?
c. Increased D causes P to rise
d. Increased P causes smaller rectangle of losses
e. Entry stops when firms break even
3. Consequences
a. Only way to break even is for P*=ATC so there is no profit or loss
b. Prices comes from demand curve, so only way for P=ATC to happen is for
demand curve to touch ATC at output Q*, where MR=MC.
c. Because only normal profits are being made, firms will neither enter nor exit, so
long run equilibrium is achieved
v. Differences from perfect competition STOPPED HERE ON TUESDAY
1. Firms have pricing power like in a monopoly, but have long-run profits that are zero like
a perfectly competitive firm.
2. In perfect competition, long run output is P=MR=MC=ATC.
a. Profits are zero, normal profit is earned
3. In monopolistic competition, long run output is P=ATC>MR=MC (key part: P>MC)
a. Profits are zero, normal profit is earned
b. Firms enter and exit the industry until profits are normalized.
4. Difference #1 = in monopolistic, P>MC – what does that mean?
a. Profit is greater than what it cost to produce it, in the short run? Due to the
monopoly-like conditions?
5. Difference #2 = where on the ATC curve is P=ATC
a. Monopolistic = on the downward slope of ATC
b. Perfect = at the lowest ATC (level of output being produced is the one that
corresponds to the lowest ATC) – (will produce goods at whatever level costs
them the least?)
6. Difference #3 = This discrepancy is “excess capacity” - A situation in which actual
production is less than what is achievable or optimal for a firm. This often means that
the demand in the market for the product is below what the firm could potentially
supply to the market.
a. Perfect = produce at level of output where ATC is minimized
b. Monopolistic = does not, (firms, nor industries)
vi. Is monopolistic competition inefficient?
1. In monopolies, deadweight loss exists when output stops prior to point where P=MC
2. Anytime P does not = MC, it is inefficient
3. P>MC, so deadweight loss exists, and therefore inefficiency. Wedge between P and MC
is lower than in a monopoly, do degree of DWL is lower.
4. Is DWL survivable? Probably. Reason why P>MC is because of differentiated products
so they have some degree of pricing power similar to in a monopoly.
5. DWL could be considered the price of having variety of your goods. Would you rather
have a world with varied restaurants or have them all have the same menu but cost a
little less?
b. Questions at end of module together, page 666