Chapter 16: Monopolistic Competition

What characteristics does monopolistic competition have in common with perfect competition?

Both market structures have many sellers and free entry and exit. Thus, profits are driven to zero in the long run.

What characteristics does monopolistic competition have in common with a monopoly?

Both market structures involve a differentiated product so firms face downward-sloping demand curves, equate MC and MR, and charge a price above MC.

How does a monopolistically competitive firm choose the quantity and price that maximizes its profits?

It chooses the quantity by equating MC and MR and then uses the demand curve to find the price that is consistent with this quantity (just like a monopolist).

Summarize the arguments in support of advertising and brand names.

Advertising provides information about prices, new products, and the location of retail outlets; provides new firms with the means to attract customers from existing firms; and can be a signal of high quality. Brand names provide information about the quality of the product and provide incentive for the producer to maintain high quality.

How does the long-run equilibrium in monopolistic competition differ from the long-run equilibrium in perfect competition?

Monopolistic competition has excess capacity because monopolistically competitive firms produce at less than efficient scale and they charge prices in excess of marginal cost. Competitive firms produce at the efficient scale and charge prices equal to marginal cost.

Is the long-run equilibrium in monopolistic competition efficient? Explain.

No. Because price exceeds marginal cost, there is underproduction—some units that buyers value in excess of marginal cost are not produced. Also, the number of firms in the market may not be ideal because entry into the industry creates the positive product-variety externality and the negative business-stealing externality.

Is it possible for a monopolistically competitive firm to generate economic profits in the long run? Why or why not?

No. Profits attract new firms to the market, which reduces the demand faced by each of the incumbent firms until the demand faced by each firm is tangent to its ATC curve and profits are zero.

What are the two types of imperfect competition? Describe them.

Oligopoly and monopolistic competition. Oligopoly is a market structure in which only a few sellers offer similar or identical products. Monopolistic competition is when many firms sell products that are similar but not identical.

The market for vitamins and dietary supplements is dominated by five firms. What type of market structure does it represent? Explain.

Oligopoly because there are few firms and the products are similar or identical.

Summarize the arguments in opposition to advertising and brand names.

The use of advertising and brand names manipulates people's tastes, impedes competition, and creates brand loyalty when there is no difference among goods. This allows for a higher markup over marginal cost and increases inefficiency.

In which market structure—monopoly, oligopoly, monopolistic competition, or perfect competition—would you place each of the following products? Why? (retail market for electricity, Principles of economic textbooks, our textbook, air travel from any one airport, retail market for gasoline, restraints in a large city, auto tires, trash collection, legal serve in a metropolitan area, breakfast cereal, gold bullion

monopoly, monopolistic competition, monopoly, oligopoly, prefect competition, monopolistic competition, oligopoly, monopoly, monopolistic competition, oligopoly, perfect competition.