Perfect and Monopolistic Competition

Question 1

What are the characteristics of perfect competition?

Answer 1

There are many small firms and no firm has any influence over the market ruling price. There’s no barriers to entry and exit, so there’s freedom to entry and exit. Products are homogenous. The firm is a price taker. They make normal profits in the long run but can make supernormal profits in the short run. There’s perfect knowledge. A perfectly competitive firm is both allocatively and productively efficient in the long run. Therefore, they must be x-efficient and statically efficient. There’s a perfectly elastic demand / AR curve.

Question 2

What are the characteristics of monopolistic competition?

Answer 2

There are many suppliers, each with an insignificant market share. Each firm has slight price setting power. Products are slightly differentiated. Consumers have perfect information on prices. All firms have equal access to resources. There are no barriers to entry/exit in the long run. There are no externalities in production or consumption. E.g, restaurant’s, cafe’s, hairdresser’s, shoe repairs.