Week 11: monopolistic competition, efficiency Flashcards
Characteristics
Many sellers
Products are differentiated, but close substitutes
Relatively free entry and exit
Information is imperfect (advertising)
Profit Maximisation
Short Run
Firms face a downward-sloping demand curve
Is elastic, based on # of substitutes
Operate on MR=MC
Long Run
Firms earn normal economic profits in the long run (zero), due to easy of entry
Economic Profit
MR=MC
Initially, positive economic profits being made
Positive profits entice new firms to enter, decreasing market share of existing firms
Demand shifts to the left. (Ensure that demand is on the ATC line, and the price and quantity is on the new profit maximising point)
Quasi Loss
MR=MC Initially, quasi-loss is made Losses cause firms to leave Demand shifts right Demand=tangent to ATC
Comparison to Perfect Competition
Monopolistically competitive firm will operate at a price of PMC and output QMC in long run
PC operates at min ATC, with a price of Ppc and Output QPC in long run
MC firm has some market power, and is able to reduce output and charge a slightly higher price
Monopolistically competitive markets give us choice, eg. more than 1 car, restaurants
More dynamic efficiency than perfect competition, as R&D
Involves a trade-off between efficiency and choice
Productive Efficiency
PC operates at min of ATC
In MC, firm operates to the left of min ATC
Therefore not productively efficient
Allocative Efficiency
In PC, P=MC
In Mon. Comp, P>MC
Excess Capacity
Different between output at min ATC and profit max level of output
Firms could increase output and decrease average costs, but don’t because of market power and product differentiation
Role Of Advertising in Monopolistic Competition
Brand Management: promote product loyalty
Advertising: Shift the demand curve to the right, for this to work - increase in costs must be less than increase in demand
If successful, ATC shifts UP and Demand shifts to the right and same as MR = more inelastic
Measured by: New price - New ACT * q
