Monopolistic Competition

1
Chapter 17

• Monopolistic Competition

2
The Spectrum of Market Structure
Pure Competition
Pure Monopoly
MC
PC
M
O
Monopolistic Competition
Oligopoly
3
Imperfect Competition

• Two imperfectly competitive markets
• Monopolistic Competition
• Oligopoly
• Few interdependent sellers, offering a similar or
  identical products

4
Monopolistic Competition

• Mostly features of competition and a few
  monopoly.
• Attributes
• Many Sellers
• Free Entry/Exit
• Product Differentiation

5
Monopolistic Competitors Demand
Note NOT Market Demand Slopes Downward due
to Product differentiation
Price
B
P2
A
P1
Demand
Quantity
Q2 .
Q1 .
6
Now Adding MR Curve
Price
B
P2
A
P1
Demand
MR
Quantity
Q2 .
Q1 .
7
Attribute Many Sellers

• Examples
• restaurants, taverns, piano lessons, barbers,
  beauty shops etc.

8
Attribute Product Differentiation

• Different Products
• quality
• services/clientele
• location
• packaging/advertisement.
• Demand highly, but not perfectly, elastic.

9
Attribute Free Entry or Exit

• Easy entry
• No long-run profits

10
Monopolistic Competition...

• A market structure between perfectly competitive
  and monopolistic.
• Departs from the perfectly competitive because
  each seller offers a somewhat different product.
• Departs from a monopoly because there are many
  sellers, each of which is small compared to the
  market.

11
Monopolistic Competition in Short Run

• In short-run, monopolistically competitive firm
• Uses general rule for profit-maximization.
• MR MC Gives Output Level
• Price gt ATC Earn Profits
• Price lt ATC Minimize Losses

12
Monopolistically Competitors in the Short-Run
Price
MC
ATC
P
ATC
Demand
MR
Quantity
Q Profit Max.
13
Monopolistically Competitors in the Short-Run
Positive Profit
Price
MC
ATC
PgtATC Firm Makes Profit
P
ATC
Demand
MR
Quantity
Q Profit Max.
14
Monopolistically Competitors in the Short-Run
Zero Profit
Price
MC
ATC
P
ATC
Demand
MR
Quantity
Q Profit Max.
15
Monopolistically Competitors in the Short-Run
Price
MC
ATC
ATC
P
Demand
MR
Quantity
Q Loss Min.
16
Monopolistically Competitors in the Short-Run
Price
MC
ATC
ATC
P
PltATC Firm Makes Losses
Demand
MR
Quantity
Q Loss Min.
17
Long-Run Operation in Monopolistic Competition

• If economic profit in short-run, new firms enter
  the market.

18
Monopolistic Competition in Long Run

• Firms enter or exit until zero economic profits.
  
• Two long-run characteristics
• P gt MC deadweight loss
• P ATC zero profits

19
A Monopolistic Competitor in Long-Run
Price
MC
ATC
P
D
MR
Quantity
Q Profit Max.
20
A Monopolistic Competitor in the Long-Run
Price
MC
ATC
P
D
MR
Quantity
Q Profit Max.
21
A Monopolistic Competitor in the Long-Run
Price
MC
ATC
PATC
D
MR
Quantity
Q Profit Max.
22
Monopolistic Competition vs.Perfect Competition

• Two differences in long-run between monopolistic
  competition and perfect competition
• Excess Capacity
• Markup

23
Monopolistic CompetitionExcess Capacity

• In perfect competition, firms produce at
  efficient scale ---lowest point on ATC curve

24
The Competitive Firms Output in the Long-Run
Price
MC
ATC
PMRAR
PMC
Quantity
QEfficient Scale
25
Monopolistic CompetitionExcess Capacity

• In monopolistic competition, quantity of output
  is less than efficient scale

Roar
26
Monopolistically Competitive Output in the
Long-Run
Price
MC
ATC
P
MC
Demand
MR
Quantity
QProduced
27
Monopolistically Efficient Output in the Long-Run
Price
MC
ATC
P
MC
Demand
MR
Quantity
Q
Q Efficient Scale
28
Monopolistically Efficient Output in the Long-Run
Price
MC
ATC
P
Excess Capacity
MC
Demand
MR
Quantity
Q
Q Efficient Scale
29
Monopolistic CompetitionMark Up 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 monopolistic competitive firm.

30
Monopolistically Competitive Output in the
Long-Run
Price
MC
ATC
P
Mark-Up
MC
Demand
MR
Quantity
Q
Q Efficient Scale
31
Monopolistic Competition and the Welfare of
Society

• Inefficiencies include
• The markup price over marginal cost
• Results in deadweight loss to society.

32
Monopolistic Competition and the Welfare of
Society

• Number of firms in the market may not be ideal.
• There may be too much or too little entry. May
  lead to externalities of entry.
• Externalities of Entry
• Product-Variety externality
• Business-Stealing externality

33
Monopolistic Competition and the Welfare of
Society

• Number of firms in market not ideal.

Say it isnt so!
34
Quick Quiz!

• List the three key attributes of monopolistic
  competition.
• Draw and explain a diagram to show the long-run
  equilibrium in a monopolistically competitive
  market.

35
Monopolistic Competition Advertising and Brand
Names

• Product differentiation leads to advertising and
  brand names.
• Does advertising exploit consumers ?
• Is advertising basically informative?

36
Monopolistic Competition Advertising and Brand
Names

• Product differentiation leads to advertising and
  brand names.
• Advertising and brand names exploit consumers?
  
• Advertising increases competition by offering
  variety of products?

37
Monopolistic Competition Advertising

• Firms that sell differentiated goods spend
  between 10 to 20 of revenue for advertising.
• Total economy spends about 2 of TR, or over
  100 billion a year, on advertising.

38
Monopolistic Competition Advertising and Brand
Names

• Brand Names benefit consumers
• Provide information about quality
• Give firms an incentive to maintain high quality.

39
Wrap-Up Time
Next Stop Ch18
Didnt feel like a fish outta wadah taday!
40
Conclusion

• Monopolistically competitivemarkethave many firms
  that make non-identical products with freedom of
  market entry.
• In equilibrium, monopolistically competitive
  markets produce with some excess capacity.

41
Conclusion

• The selling price of a monopolistic competitive
  market results in some deadweight losses and
  resource misallocation.
• Product differentiation leads to advertising and
  brand names.