PRICING UNDER MONOPOLISTIC COMPETITION

Features• Many sellers, each having an insignificant share in the total supply of the

product in the market,• Product differentiation, products of various firms are similar but not

perfect substitutes.• Easy entry and easy exit; production involves small investment costs and

unsophisticated technology, and thus any one could start production or leave the industry without ant significant loss.

• The demand curve facing a monopolistically competitive firm slopes downward from left to right

• The demand curve of a monopolistically competitive firm is highly though not perfectly elastic

• A monopolistically competitive firm always produces socially sub-optimal output both in the short as well as in the long-run. This is evident from the definition of socially optimal output (where P=MC) and the nature of the AR and MR curves

• A monopolistically competitive firm never operates at its minimum

AC (or always has an excess capacity0 in the long-run. This is obvious from the firm’s long-run equilibrium position as presented above. The AC curve is U-shaped, AR curve is falling, MC curve intersects the AC curve at the latter’s minimum point, the firm merely breaks-even in the long-run. For break-even, AC must equal P (=AR). Since the AR curve is falling, the AC is falling, and since falling AC precedes the minimum AC, the equilibrium output must be less than the output at which AC is minimum. In figure 7.1 (b), while OQ2 is the long-run equilibrium output, O Q3 is the output at which AC is the least, and OQ2 is less than OQ3. The full capacity output, by definition, is the one at which AC is the minimum.

PRICING UNDER PURE COMPETITION

• purely competitive market is characterised by a large number of buyers and sellers , dealing in homogeneous product, and easy entry and exit. in view of these factors no buyer or seller has any influence on the price and consequently each one of them is price taker.

• who then determine the price? no individual buyer or seller but all of them taken together, called the" invisible hands" , determine the price.

The various firms in the industry can be classified into four categories:a)efficient (least-cost)and profit making firmsb)efficient but breaking -even firmsc)inefficient but operating firmsd)inefficient and closed down firms

pricing under a pure monopoly

• A firm with monopoly has price-setting power and will look to earn high levels of profit.

• A pure monopolist is the sole supplier in an industry and, as a result, the monopolist can take the market demand curve as its own demand curve. A monopolist therefore faces a downward slope

• Assuming that the firm aims to maximise profits (where MR=MC) we establish a short run equilibrium as shown in the diagram below.

• Not all monopolies are guaranteed profits - there can be occasions when the costs of production are greater than the average revenue a monopolist can charge for their products. This might occur for example when there is a sharp fall in market demand (leading to an inward shift in the average revenue curve).

PRICING UNDER OBLGOPOLY

oligopoly market is characterized by the following features: • A few sellers or a few ‘big’ sellers if there are many sellers;• Standard or differentiated product; and• Difficult but possible entry / exist.Types of oligopoly• homogeneous or standard oligopoly• The heterogeneous oligopolyThe demand function for a firm’s product would behave the following

variables,• Prices of rival firms’ goods• Advertisement budgets’ of rival firms• Styles and quality of rival firms goods and each of these additional

variables would enter with a negative signed coefficient in the demand function