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Monopolistic competition is a market structure where there are many sellers and many buyers, but products are differentiated (not homogeneous). Each firm has some control over price due to product differentiation, yet competition is strong because many close substitutes exist.
Like other imperfect markets, a firm maximises profit where: Price is determined from the AR curve corresponding to that output. Short run outcomes: a firm may earn supernormal profit, normal profit, or incur loss depending on AR and AC at equilibrium output.
In long run, supernormal profits attract entry, shifting each firm’s demand curve left (more competition). Losses lead to exit. Long run equilibrium typically results in: Firms earn normal profit only.
Excess capacity: In long run, equilibrium output is often less than the output at minimum AC, meaning firms operate with excess capacity due to downward sloping demand and product differentiation.
Product differentiation creates brand loyalty and some market power. Selling costs are costs incurred to increase demand (advertising, sales promotions). Selling costs shift demand curve and can be used as a competitive tool.
Merits: product variety and consumer choice; innovation in design and services.
Demerits: higher prices than perfect competition; selling costs may be wasteful; excess capacity implies inefficiency.
Oligopoly is a market structure where a few large firms dominate the industry. Products may be homogeneous (e.g., cement) or differentiated (e.g., automobiles). Each firm’s decisions affect others, leading to mutual interdependence.
Kinked demand curve theory explains price rigidity:
Firms often avoid price wars and compete through:
Merits: economies of scale, innovation and R&D, stable prices in some cases.
Demerits: possibility of collusion and consumer exploitation, price rigidity, reduced competition and barriers for new entrants.
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Monopolistic competition is a market structure where there are many sellers and many buyers, but products are differentiated (not homogeneous). Each firm has some control over price due to product differentiation, yet competition is strong because many close substitutes exist.
Like other imperfect markets, a firm maximises profit where: Price is determined from the AR curve corresponding to that output. Short run outcomes: a firm may earn supernormal profit, normal profit, or incur loss depending on AR and AC at equilibrium output.
In long run, supernormal profits attract entry, shifting each firm’s demand curve left (more competition). Losses lead to exit. Long run equilibrium typically results in: Firms earn normal profit only.
Excess capacity: In long run, equilibrium output is often less than the output at minimum AC, meaning firms operate with excess capacity due to downward sloping demand and product differentiation.
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Monopolistic competition has many sellers but products are differentiated, so each firm faces a downward sloping demand curve. There is free entry and exit in long run, and selling costs like advertising are important. Firms have some control over price, but competition remains strong due to many close substitutes.
In the short run, a monopolistic competitive firm reaches equilibrium where MR = MC and sets price from the AR curve; it may earn supernormal profit, normal profit or loss. In the long run, supernormal profits attract entry and losses cause exit, shifting demand curves until firms earn normal profit. Long run equilibrium occurs where AR = AC and MR = MC.
Monopolistic competition is a market structure where there are many sellers and many buyers, but products are differentiated. Each firm sells a close substitute of others, so it has some control over price, yet competition remains strong.
Features: There are a large number of firms, product differentiation through brand, quality and services, and the firm faces a downward sloping demand curve (AR) with MR below AR. Entry and exit are relatively free in the long run. Selling costs and advertising are important and firms compete through both price and non-price methods.
Short run equilibrium: A firm maximises profit where MR = MC and charges price according to AR for that output. In the short run, the firm may earn supernormal profit (P>AC), normal profit (P=AC) or incur loss (P<AC) depending on cost and demand.
Long run equilibrium: Supernormal profits attract new firms and losses force firms to exit. Entry shifts each firm’s demand curve left until only normal profit remains. Long run equilibrium occurs when AR = AC and MR = MC. Usually the firm produces less than minimum AC output, creating excess capacity.
Thus, monopolistic competition provides product variety but leads to excess capacity and selling costs.