3.4.3: Monopolistic Competition

Question 1

What are the characteristics of monopolistic competition?

Answer 1

• Many buyers/sellers
• Slightly differentiated products but close substitutes
• Firms are price makers to some extent
• Price elastic products
• Low barriers to entry
• Imperfect Information
• Profit Maximisers

Question 2

Why is monopolistic competition productively and allocatively in
efficient?

Answer 2

• Productive inefficient because they cant use economies of scale, because there a lot of sellers in the market
• Allocative inefficient because monopolistic firms can charge higher than the marginal cost.

Question 3

What are the advantages of monopolistic competition?

Answer 3

• Wide variety of choice for consumers
• A more realistic market structure than perfect competition
• Consumers may benefit from the increased range of choice on offer in the market.

Question 4

What do a large number of buyers and sellers in the market mean in monopolistic competition?

Answer 4

• No one buyer or seller has a large price setting power

Question 5

What do no barriers to entry or exit mean in monopolistic competition?

Answer 5

• This allows new firms to entre when supernormal profits are being made and some to leave in the case of losses.
• As a result, only normal profits can be made in the long run

Question 6

What do non- homogenous goods mean in monopolistic competiton?

Answer 6

• Means that individual firms do have some price setting power and so the curve is downward sloping.

Question 7

Why are firms not allocatively or productively efficient in monopolistic competition?

Answer 7

• As firms can only make normal profit in the long run, AC=AR
• And as firms profit maximise, MC=MR
• Productive Efficient: MC=AC
• Allocative Efficient: P=MC

Question 8

Why are firms in monopolistic competition likely to be dynamic effiecient?

Answer 8

• Since there are differentiated products and so know that innovative products will give them an edge over their competitors and enable them to make supernormal profits in the short run.
• However since firms are small, they may struggle to receive finance or have the retained profits necessary to invest.

Question 9

Monopolistic competition in comparison to perfect competition

Answer 9

• In monopolistic competition, less is sold at a higher price, compared to perfect competition.
• Firms may not necessarily be producing at the lowest cost
• EV: However, the market will offer greater variety and may be able to enjoy some degree of economies of scale

Question 10

When does monopolistic competition occur?

Answer 10

Monopolistic competition exists when many companies offer competing products or services that are similar, but not perfect substitutes.