Monopolistic Competition Markets that have some features of competition and some features of...
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![Page 1: Monopolistic Competition Markets that have some features of competition and some features of monopoly. Many sellers Product differentiation Free entry.](https://reader035.fdocuments.us/reader035/viewer/2022072016/56649ef05503460f94c008f0/html5/thumbnails/1.jpg)
Monopolistic CompetitionMonopolistic Competition
Markets that have some features of competition and some features of monopoly.
• Many sellers• Product differentiation• Free entry and exit
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Many SellersMany Sellers
• There are many firms competing for the same group of customers.
Product examples include books, CDs, movies, computer games, restaurants,
piano lessons furniture, etc.
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Product DifferentiationProduct Differentiation
• Each firm produces a product that is at least slightly different from those of other firms.
• Rather than being a price taker, each firm faces a downward-sloping demand curve.
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Free Entry or ExitFree Entry or Exit
• Firms can enter or exit the market without restriction.
• The number of firms in the market adjusts until economic profits are zero.
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Monopolistic Competition in Monopolistic Competition in the Short Runthe Short Run
• Short-run economic profits encourage new firms to enter the market. This:
Increases the number of products offered. Reduces demand faced by incumbent
firms. Incumbent firms’ demand curves shift to
the left.Demand for the incumbent firms’
products fall, and their profits decline.
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Monopolistic Competition in Monopolistic Competition in the Short Runthe Short Run
• Short-run economic losses encourage firms to exit the market. This:
Decreases the number of products offered. Increases demand faced by the remaining
firms. Shifts the remaining firms’ demand
curves to the right.Increases the remaining firms’ profits.
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The Long-Run EquilibriumThe Long-Run Equilibrium
• Firms will enter and exit until the firms are making exactly zero economic profits.
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Monopolistic versus Perfect Monopolistic versus Perfect CompetitionCompetition
• There are two noteworthy differences between monopolistic and perfect competition—excess capacity and markup.
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Excess CapacityExcess Capacity
• There is no excess capacity in perfect competition in the long run.
• Free entry results in competitive firms producing at the point where average total cost is minimized, which is the efficient scale.
• There is excess capacity in monopolistic competition in the long run.
• In monopolistic competition, output is less than the efficient scale of perfect competition.
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Excess CapacityExcess Capacity
• Unlike a competitive firm, a monopolistically competitive firm could increase the quantity it produces and lower the average total cost of production.
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Markup Over Marginal CostMarkup Over Marginal Cost
• For a competitive firm, price equals marginal cost.
• For a monopolistically competitive firm, price exceeds marginal cost.
• Because price exceeds marginal cost, an extra unit sold at the posted price means more profit for the monopolistically competitive firm.
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Monopolistic Competition and Monopolistic Competition and the Welfare of Societythe Welfare of Society
• Monopolistic competition does not have all the desirable properties of perfect competition.
• There is the standard deadweight loss of monopolistic competition caused by the markup of price over marginal cost.
• However, regulating the pricing of all firms that produce differentiated products would be impractical.
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Monopolistic Competition and Monopolistic Competition and the Welfare of Societythe Welfare of Society
• The variety of products in the market can be too large or too small to be socially efficient. That is, there may be too much or too little market entry.
• Externalities of entry include product-variety externalities and business-stealing externalities.
• Because the inefficiencies are subtle, hard to measure, and hard to fix, there is no easy way public policy can improve the market outcome.
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Advertising and Brand NamesAdvertising and Brand Names• Product differentiation leads to advertising and
brand names.• Some critics of advertising and brand naming
contend that they exploit consumers and reduce competition
• Defenders argue that advertising provides information and increases competition by offering a greater variety of products and prices.
• Firms that sell highly differentiated consumer goods typically spend between 10 and 20 percent of revenue on advertising.