5.6 Monopolistic Competition

Question 1

What does monopolistic competition fall between?

Answer 1

Perfect competition and oligopoly

Question 2

What is monopolistic competition known as?

Answer 2

Imperfect competition amongst the many

Question 3

What does monopolistic competition resemble?

Answer 3

-monopolies and perfect competition

Question 4

How does monopolistic competition resemble perfect competition?(4 asp)

Answer 4

-large number of firms in the market

-no barriers to exit and entry in the long run

-normal profit made in the long run(supernormal is decreased)

-many producers and consumers

Question 5

How does monopolistic competition represent monopolies?(3 asp)

Answer 5

-downward sloping demand curve(slightly different product), goods are partial but not perfect substitutes for each other, they are partial substitutes(product differentiation)

-firms can raise prices and not loose all consumers (price setting powers)

-differentiated products

-each firms MR curve is below ARcurve (ar=demand curve)

Question 6

What is short-run profit maximisation similar to and why?

Answer 6

Monopoly because there are supernormal profits in the short run

Question 7

Describe short run profit maximisation of a monopoly?(2 aspects:

Answer 7

-demand curve (MR)is more elastic than it would be in a monopoly

-demand curve (or ar) represents demand for goods produced by one firms rather than the whole market

Question 8

Describe long run profit maximisation?

Answer 8

-entry of a new firm causes demand curve to shift inward

-inward shift due to partial substitutes attracting consumers away from existing firms

-profit maximising MR=MC

-long run profit maximisation is achenved when AR firms tangent to ATC curve removing abnormal profits

Question 9

What does the market mechanism do to monopolistic competition in the long run?

Answer 9

Eliminates abnormal profits and brings in a profit maximising price (P=ATC)

Question 10

When is monopolistic competition both productively and allocatively inefficient?

Answer 10

In the absence of any economies of scale

Question 11

What does the productive inefficiency in a monopoly take form as?

Answer 11

Excess capacity

Question 12

What is excess capacity measured by?

Answer 12

Difference between the profit-maximising level of output and the productivity efficient level of output

Question 13

Why must firms in perfect competition be productively efficient?

Answer 13

Because if they don’t produce on the lowest point of the ATC curve they won’t make normal profits

(This forces them to eliminate unneeded costs)

Question 14

What does product differentiation do for a consumer?

Answer 14

Increases the range of choice available to the consumer

Question 15

Due to product differentiation it is commonly believed that monopolistic competition improves ….

Answer 15

Economic welfare

Question 16

When does product differentiation stop according to Kelvin Lancaster?

Answer 16

Until the gain to the consumer from having to produce a new product = the loss of having to create a new product for the market

Question 17

What is advertising divided into?

Answer 17

-persuasive advertising
-informative advertising

Question 18

What does informative advertising do?

Answer 18

Increases competition because it provides consumers and producers with useful information about the different goods that different firms are producing

Question 19

What does persuasive advertising do?

Answer 19

Reduces competition and makes demand curve less elastic

Reduces competition “in effect consumers are unwilling to provide a cheaper substitute good”

Question 20

What does persuasive advertising attempt to do?

Answer 20

Persuade people that the product is a must-have product(little information about the good is provided) e.g it’s price

-instead the focus on how ownership of the product will improve consumers feelings or their image portrayed to other people

Question 21

What does persuasive advertising go hand in hand with?

Answer 21

Saturation advertising

Question 22

What do monopolies use saturation advertising for?

Answer 22

To prevent other firms entering the market

Question 23

Why does saturation advertising prevent smaller firms from entering the market?

Answer 23

They are unable to afford the minimum level of advertising and other forms of promotion

(This is needed to persuade retailers to stock their products)

Question 24

When does price competition take place?

Answer 24

When a firm reduces prices to sell more of its good

Question 25

What two ways can increases sales occur in?

Answer 25

-switch from markets where prices are higher

-switch from buying good from rivals in the sake market

Question 26

What 3 ways can firms undertake price competition?

Answer 26

-limiting prices
-predatory prices
-special offer prices

Question 27

What is special offer pricing?

Answer 27

Discounted prices for a limited time only

Question 28

In the absence of price competition what are firms in monopolistic competition and oligopoly likely to do?

Answer 28

Undertake non price competition

Question 29

What are the 3 types of non price competition?

Answer 29

-marketing competition (obtaining exclusive outlets where oil companies sell their products)

-persuasive advertising and production differentiation

-quality competition (provision of point-of-sale and service and after-sales service

Question 30

Diagram for short run-profit maximisation in monopolistic competition

Answer 30

Question 31

Describe this diagram?

Also why is it different to a monopoly

Answer 31

Profit maximisation at A and profits shown in rectangle C1 D B P1

-different as AR curve is for a firm not the whole market and other firms in the market produce partial (not perfect substitutes)-more elastic than a pure monopoly

Question 32

Diagram for long-run profit maximisation in monopolistic competition?

Answer 32

Question 33

Describe this diagram?

Answer 33

-there is an absence of barriers to entry in monopolistic competition

-causes inward shift of AR curve from the introduction of substitute products

-achieved when AR curve forms a tangent with the ATC curve (removing abnormal profit)

-only normal profit is made

Question 34

What are both total sales revenue and total costs of production shown by?

Answer 34

Rectangle O Q1 B P1