Economics Ch: 9.1 Introduction to Monopolistic Competition and Oligopoly
Firm C is a monopolistic competitor. Its long-run demand curve can be seen in the graph below. Notice the average cost curve is touching the demand curve at price P1. In the long-run, is Firm C productively efficient? Why or why not?
No, price is greater than the lowest possible average cost. Productive efficiency means goods are produced at the lowest possible average cost. This firm is producing above the lowest point on the AC curve at (Q1,P1), so it is not productively efficient. In general, in monopolistic competition, the end result of entry and exit is that firms end up with a price that lies on the downward-sloping portion of the average cost curve, not at the very bottom of the AC curve. Thus, monopolistic competition will not be productively efficient.
Firm X is a monopolistic competitor. The demand, marginal revenue, and cost curves faced by this firm are shown in the graph below. Notice the AC curve is touching the demand curve at price P1. In the long run, is Firm X's production allocatively efficient?
No, since price is above marginal cost. Allocative efficiency occurs when the social benefits of additional production, as measured by the marginal benefit, which is the same as the price, equal the marginal costs to society of that production. Since this is a monopolistically competitive firm, it produces the level of output where MR=MC. As you can see in the graph, at the level of output where MR=MC, marginal cost is below the maximum price consumers would be willing to pay, given by the demand curve at that quantity. Price does not equal MC and so this firm is not allocatively efficient. See image below to help with understanding
Andrea's Day Spa collected the data below to determine the profit-maximizing price and quantity at which to sell shampoo in a monopolistically competitive market. Using the marginal costs and marginal revenues provided, what is the profit-maximizing price and quantity at which Andrea's Day Spa should sell?
P=$16 Q=40 A monopolistic competitor maximizes profit by setting price where marginal revenue equals marginal cost, MR=MC. On this table, MR=MC=$10.00 at a quantity of 40 units sold at a price of $16.00 per item. Therefore, Andrea's Day Spa determined they maximized their profits of selling shampoo in a monopolistically competitive market at price $16 and quantity 40.
Ralphy Runs is a monopolistic competitor in the athletic wear industry. Ralphy Runs collected the data presented in the graph below to determine the profit-maximizing price and quantity at which it should sell. What is Ralphy Runs' profit-maximizing price and quantity?
P=$60 Q=12 In monopolistic competition, firms set their price where MR=MC to maximize profit. To find the price a monopolistically competitive firm will charge consumers, you must first find where MR=MC. Looking at the graph, you can see that this occurs at a quantity of 12. To determine price, follow the grid line up to the demand curve from Q=12. Then follow the horizontal grid line over to price. This is the price this monopolistic competitor will charge for its product. On this graph, that price is $60.
Shoe Horn, a monopolistic competitor in the shoe industry, is currently selling its product at the profit-maximizing level, (Q∗,P∗), where Q∗=4 and P∗=$30. Using the graph below, calculate Shoe Horn's total profit.
$20 To calculate profit, we must first determine the firm's total cost and total revenue at the given level of production. For total revenue, Totalrevenue=Price×Quantity Given that the firm is producing at the profit-maximizing level, whereMR=MCandP=$30andQ=4, TR=$30×4=$120 For total cost, Totalcost=Averagecost×Quantity From the average cost curve on the graph, we can see that at Q=4, AC=$25. TC=$25×4=$100 Finally, we can calculate profit, Profit=Totalrevenue−Totalcost π=$120−$100=$20
Which of the following is a potential benefit to consumers of product differentiation?
All are Benefits -lower prices -quality guarantees -variety of products to choose from -friendly service -quality assurance -free shipping -warranties
Represents the social benefits of additional production, as measured by the marginal benefit, which is the same as the price, equal the marginal costs to society of that production. A monopolistically competitive firm does not produce more, which means that society loses the net benefit of those extra units.
Allocative efficiency
the social benefits of additional production, as measured by the marginal benefit, which is the same as the price, equal the marginal costs to society of that production.
Allocative efficiency defined
A company is operating in the monopolistically competitive medical supplies industry and is currently earning a positive economic profit. Illustrate what will happen in the long run for this company.
Demand will decrease Firms in a monopolistically competitive market will make zero economic profits in the long run.
A monopolistically competitive industry displays productive and allocative efficiency in the short run and long run.
False A monopolistically competitive industry does not display productive or allocative efficiency in either the short run, when firms are making economic profits and losses, nor in the long run, when firms are earning zero profits.
Firm A is a monopolistic competitor. Its short-run demand curve can be seen in the graph below. Notice the average cost curve is above the demand curve at the profit-maximizing price, P1. In the short-run, Firm A is productively efficient.
False This firm is producing at a level of output, (Q1,P1) where price is below average cost. This implies that the firm is not earning enough to cover its average costs and is facing economic losses in the short-run. This monopolistically competitive firm is not productively efficient. In general, monopolistically competitive firms are never productively efficient regardless whether they're facing economic losses or profits.
Below is a graph of demand and cost curves for a monopolistically competitive firm who is making a profit in the short run. Illustrate the changes that will take place in this market in the long run.
Firms in a monopolistically competitive market will make zero economic profits in the long run. If firms are profitable in the short run, that attracts new firms to enter the market and produce similar products. As more firms enter, they draw some of the customers away from existing firms, thus reducing the demand for their products and services.
Show a lot of variety, or small differences, among them. Typically, utilities like electricity, gas, etc. are not products that can be differentiated.oods with high levels of product differentiation
Goods with high levels of product differentiation
Looking at the graph of a monopolistically competitive firm in the short-run, does this firm display allocative efficiency?
No, allocative efficiency implies that price equals marginal cost. In this example, price is above marginal cost. Allocative efficiency implies price equals marginal cost, P=MC. In a monopolistically competitive market, the benefits to society of providing additional quantity, as measured by the price that people are willing to pay, exceed the marginal costs to society of producing those units, P>MC. A monopolistically competitive firm does not produce more, which means that society loses the net benefit of those extra units. In other words, if the price (which is set on the demand curve) of buying an additional unit is above marginal cost, then consumers are paying too much for the product to make the market allocatively efficient. The difference in price and marginal cost should be used to produce more goods so that society can benefit from a higher quantity of goods at a lower price.
A representative from monopolistically competitive firm, Firm D, created the following image to present at the next board meeting. The topic is increasing profits. Looking at the graph, will increasing profits make this firm more allocative efficient?
No, increasing profit will only decrease allocative efficiency
The company PowerSurge is a monopolistic competitor in the battery market. Looking at the data in the table below, what is the profit-maximizing price and quantity at which PowerSurge should sell?
P=$16 Q=$40 A monopolistic competitor maximizes profit by setting price where marginal revenue equals marginal cost, MR=MC. On this table, MR=MC=$10 at a quantity of 40 units sold at a price of $16 per item.
Hooked, Inc. sells fishing poles in a monopolistically competitive market. Based on the information in the figure below, which price will Hooked, Inc. choose when trying to maximize profits?
P=$40 In monopolistic competition, firms set their price where MR=MC to maximize profit. To find the price a monopolistically competitive firm will charge consumers, you must first find where MR=MC. Looking at the graph, you can see that this occurs at a quantity of 12. To determine price, follow the grid line up to the demand curve from Q=12. Then follow the horizontal grid line over to price. This is the price this monopolistic competitor will charge for its product. On this graph, that price is $40.
Fusion Crush Fruit is a monopolistic competitor in the frozen fruit industry. Using the data collected below, what is the profit-maximizing price and quantity at which Fusion Crush Fruit should sell its frozen fruit?
P=$80 Q=40 A monopolistic competitor maximizes profit by setting price where marginal revenue equals marginal cost, MR=MC. On this table, MR=MC=$20 at a quantity of 40 units sold at a price of $80 per item.
Below are the demand curves faced by firms from different market structures, including monopoly, perfect competition, and monopolistic competition. Which demand curve could be that of a firm in monopolistic competition?
The first graph represents a monopolistically competitive firm. A monopolistically competitive firm perceives a demand for its goods that is an intermediate case between monopoly and competition. Its demand curve is downward-sloping, but not as steep as that of a monopolist since competition prevents the firm from setting prices too high.
In a monopolistic competitive environment, firms exit up to the point where there are no more losses in the market.
True In a monopolistic competitive environment, economic losses lead to firms exiting, which results in increased demand for the original firm and lowered losses. Firms exit up to the point where there are no more losses in this market.
Which of the following is not a characteristic of oligopoly?
a large number of competing firms selling non-identical products
All of the following are potential effects of advertising for a firm except
a more elastic demand curve Advertising is meant to convince people that the products of one firm are different and better from the products of another firm. In monopolistic competition, advertising may cause a firm's demand curve to become more inelastic not more elastic. This is what allows the firm to charge a higher price.
Which of the following is not a characteristic of monopolistic competition?
a single firm dominates the market
Consider the example of a clothing manufacturer/seller who would like to differentiate its products from those of other firms. Which of the following is an example of a physical aspect that contributes to differentiating products?
adding the manufacturer's logo to all items in the current season's collection Using physical aspects of products to differentiate them from products of competing firms implies that the products themselves are physically designed to be unique or appeal to customer preferences. Adding logos to a line of clothing is an example of product differentiation through physical aspects.
Which of the following is not a valid way in which a firm can differentiate its products from the products of other firms?
altering price Of the options above, all can be used to differentiate products except for price. Price alone is not enough to differentiate a product because it is not a property of the product itself, it is merely a value that is assigned to it.
Which of the following goods does not have a high level of product differentiation?
electricity
While advocates of a market-oriented economy tend to argue that consumers benefit substantially when firms seek short-term profits by providing differentiated products, critics of market-oriented economies may argue that product differentiation (along with marketing and
socially wasteful Critics of market-oriented economies argue that society does not really need dozens of different athletic shoes or breakfast cereals or automobiles. They argue that much of the cost of creating such a high degree of product differentiation, and then of advertising and marketing this differentiation, is socially wasteful—that is, most people would be just as happy with a smaller range of differentiated products produced and sold at a lower price.
Which of the following is not a form of product differentiation?
supplier's costs A firm can try to make its products different from those of its competitors in several ways: physical aspects of the product, location from which it sells the product, intangible aspects of the product, and perceptions of the product. We call products that are distinctive in one of these ways differentiated products.
Betty's Bakery, a monopolistic competitor in the market for specialty cakes, is currently selling its product at the profit-maximizing level, (Q∗,P∗), where Q∗=10 and P∗=$40. Using the graph below, calculate total profit for Betty's Bakery.
$100 To calculate profit, we must first determine the firm's total cost and total revenue at the given level of production. For total revenue, Totalrevenue=Price×Quantity Given that the firm is producing at the profit-maximizing level, whereMR=MCandP=$40andQ=10, TR=$40×10=$400 For total cost, Totalcost=Averagecost×Quantity From the average cost curve on the graph, we can see that at Q=10, AC=$30. TC=$30×10=$300 Finally, we can calculate profit, Profit=Totalrevenue−Totalcost π=$400−$300=$100 You can see total revenue area shaded in the graph above. The graph below shows the total cost area. The area of total revenue not covered by total cost is the profit for this firm.
Which of the following are examples of ways in which a product can be differentiated?
-- designer label (e.g. Michael Kors or Ralph Lauren) -- limited edition
Wanda's Tire Company, a monopolistic competitor in the tire industry, is currently selling its product at the profit-maximizing level, (Q∗,P∗), where Q∗=12 and P∗=$40. Using the graph below, calculate total profit for Wanda's Tire Company. (Note: Assume average cost at the profit-maximizing output is $35).
60
monopolistically
A large number of competing firms selling non-identical products is a characteristic of monopolistically competitive markets, not oligopolies.
ABC Computers Inc. is a monopolistically competitive firm which produces personal computers. It has recently experienced a decline in profitability as the industry has become saturated with many firms offering similar products. The graph below shows the firm's demand curve and cost curves, illustrating that it is currently losing money. Illustrate what will happen as this industry begins to transition to the long-run by shifting the demand curve for ABC Computers Inc.'s products in the appropriate direction. Assume that ABC Computers Inc. has enough reserves to sustain it through this difficult time and will not exit the industry, unlike some of its competitors.
As the personal computer industry transitions to the long-run, existing firms will exit the industry. This causes demand for ABC Computers Inc. to increase, causing the demand curve (D) and associated marginal revenue curve (MR) to shift to the right. Personal computer vendors will exit up to the point where there are no more losses in this market.
Due to a recent boom in economic activity, ABC department store has seen an increase in demand for its products, and has achieved a healthy profit as illustrated in the below graph. As investors and entrepreneurs see this increase in profits for retail operations, many new stores are opened that now compete with ABC department store. Illustrate the effect of competitor entry on the market of this store.
As this industry transitions to the long-run, there will be new entrants who are attracted by the profitability in the retail industry. When new firms enter, they will "steal" some of the customers of existing firms, thus, decrease their demand curves. The demand curve of the ABC department store will shift to the left until all profits return to zero.
ABC Electronics Company is a monopolistically competitive firm that used to dominate the electronics industry. It has recently experienced a decline in profitability as the industry has become saturated with many firms offering similar products. The graph below shows the firm's demand curve and cost curves, illustrating that it is currently losing money. Illustrate what will happen as this industry begins to transition to the long-run for ABC Electronics Company's products by shifting the demand curve in the appropriate direction. Assume that ABC Electronics Company has enough reserves to sustain it through this difficult time and will not exit the industry, unlike some of its competitors.
Demand will increase. As the electronics industry transitions to the long-run, existing firms will exit the industry. This causes the demand for ABC Electronics Company's products to increase, causing the demand curve (D) and associated marginal revenue curve (MR) to shift to the right. Electronics vendors exit up to the point where there are no more losses in this market.
Looking at the 3 graphs below how would you describe the market of each firm?
Graph (a) is a perfectly elastic demand curve in perfect competition. The firm can sell as much or as little of the product it wants at a price set by the market. Graph (b) is in a monopoly market. The monopolist sets price on the perceived market demand curve, making its shape steeper than that of a firm in monopolistic competition with many competitors fighting for a piece of the market demand. Graph (c), a firm in monopolistic competition has a demand curve that slopes because the firm has more say in the price it charges for its good than a firm in perfect competition but less than that of a monopolist.
When this firm raises its price, some consumers will continue to buy its product, other consumers will choose not to purchase the product or will buy a similar product from another firm. Which graph below matches this firm's demand and demand curve description, and in what market is this firm?
Graph B, monopolistic competition The demand curve a monopolistic competitor faces is not flat, but rather downward-sloping, which means that the monopolistic competitor can raise its price without losing all of its customers or lower its price and gain more customers. Since there are substitutes, the demand curve facing a monopolistically competitive firm is more elastic than that of a monopoly where there are no close substitutes. If a monopolistic competitor raises its price, it will not lose as many customers as would a perfectly competitive firm, but it will lose more customers than would a monopoly that raised its prices.
When goods are produced at the lowest possible average cost. However, in monopolistic competition, the end result of entry and exit is that firms end up with a price that lies on the downward-sloping portion of the average cost curve, not at the very bottom of the AC curve. Thus, monopolistic competition will not be productively efficient.
Productive efficiency
No, since price is above marginal cost.
Since this is a monopolistically competitive firm, it produces the quantity where MR=MC and charges the price given by the demand curve at that quantity. As you can see in the graph, at the quantity where MR=MC, the price on the demand curve is above marginal cost. Price does not equal MC, and so this firm is not allocatively efficient.
Wanda's Florist Company, a monopolistic competitor in the market for floral arrangements, is currently selling its product at the profit-maximizing level, (Q,P), where Q=40 and P=$16. Using the graph below, if average cost is $14.50, calculate total profit for Fawn's Florist Company.
To calculate profit, we must first determine the firm's total cost and total revenue at the given level of production. According to the graph, the two shaded areas of Total Cost and Total Profit will encompass Total Revenue. Total profit for Fawn's Florist Company will be found by subtracting Total Cost from Total Revenue. For total revenue, Total Revenue=Price×Quantity Given that the firm is producing at the profit-maximizing level, where MR=MC and P=$16 and Q=40, TR=$16×40=$640 For total cost, Total cost=Average cost×Quantity From the average cost curve on the graph, we can see that at Q=40, AC=$14.50. TC=$14.50×40=$580 Finally, we can calculate profit, Profit=Total revenue−Total cost Profit=$640−$580=$60
In monopolistic competition, a firm hopes advertising will either cause its demand curve to become more inelastic (get steeper) or cause demand for the firm's product to increase (shift to the right).
True Advertising is meant to convince people that the products of one firm are differentiated (better) from the products of another firm. In monopolistic competition, advertising will either cause a firm's demand curve to become more inelastic (get steeper) or cause demand for the firm's product to increase (shift to the right). With a more inelastic demand curve or an increase in demand, a firm can charge a higher price or sell more.
All of the following statements about exit in monopolistic competition are true, except:
When economic losses induce firms to leave the industry, demand for the original firm decreases. In a monopolistic competitive environment, losses induce firms to leave the industry. When they do, demand for the original firm rises to D1, where once again the firm is earning zero economic profit, as illustrated in Graph (b) below.
