Economics – Mankiw Ch16 Monopolistic Competition – Flashcards
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imperfect competition
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The typical firm in the economy faces competition, but the competition is not so rigorous as to make the firm a price taker
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oligopoly
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a market structure in which only a few sellers offer similar or identical products
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monopolistic competition
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a market structure in which many firms sell products that are similar but not identical
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concentration ratio
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Economists measure a market's domination by a small number of firms. Percentage of total output in the market supplied by the four largest firms.
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monopolistic competition describes a market with the following attributes
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Many sellers, Product differentiation, Free entry and exit.
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The Monopolistically Competitive Firm in the Short Run
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downward-sloping demand curve; produce the quantity at which marginal revenue equals marginal cost; uses its demand curve to find the price at which it can sell that quantity. [like Monopolist] If price exceeds average total cost, so the firm makes a profit If price is below average total cost, so the firm is at losses.
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A Monopolistic Competitor in the Long Run
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If firms are making profit, new firms enter, and the demand curves for the incumbent firms shift to the left. [new firm taken customers away from the existing firms] If firms are making losses, old firms exit, and the demand curves of the remaining firms shift to the right.[increase in demand for the remaining firms] Eventually finds itself in the long run equilibrium price equals average total cost, and the firm earns zero profit. [but positive accounting profit]
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two characteristics describe the long-run equilibrium in a monopolistically competitive market
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As in a monopoly market, price exceeds marginal cost. This conclusion arises because profit maximization requires marginal revenue to equal marginal cost and because the downward-sloping demand curve makes marginal revenue less than the price. As in a competitive market, price equals average total cost. This conclusion arises because free entry and exit drive economic profit to zero.
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differences between monopolistic and perfect competition: excess capacity and the markup
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Excess Capacity [produces at higher than lowest ATC, Markup over Marginal Cost [causes deadweight loss]
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Excess Capacity
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entry and exit drive each firm in a monopolistically competitive market to a point of tangency between its demand and average-total-cost curves (downward slope region). the quantity of output at this point is smaller than the quantity that minimizes [lowest] average total cost.
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Markup over Marginal Cost
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Price exceeds marginal cost because the firm always has some market power. The zero-profit condition ensures only that price equals average total cost. It does not ensure that price equals marginal cost. In the long-run equilibrium, monopolistically competitive firms operate on the declining portion of their average-total-cost curves, so marginal cost is below average total cost.
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"Would you like to see another customer come through your door ready to buy from you at your current price?" If you are perfectly competitive firm.
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It didn't care. Because price exactly equals marginal cost, the profit from an extra unit sold is zero.
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"Would you like to see another customer come through your door ready to buy from you at your current price?" If you are monopolistic competitive firm
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always eager to get another customer. Because its price exceeds marginal cost, an extra unit sold at the posted price means more profit.
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in a monopolistically competitive market, there are positive and negative externalities associated with the entry of new firms
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1) The product-variety externality: Because consumers get some consumer surplus from the introduction of a new product, entry of a new firm conveys a positive externality on consumers. 2) The business-stealing externality: Because other firms lose customers and profits from the entry of a new competitor, entry of a new firm imposes a negative externality on existing firms.
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Monopolistic Competition is inefficient because
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1) mark up over MC prevent a group of buyers who value the product more than MC but less the the price enjoying the product. - deadweight loss of monopoly. 2) producing at higher than lowest ATC
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Whenever a new firm considers entering the market with a new product, it would causes two effects that are external to the firm.
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1) The product-variety externality: Because consumers get some consumer surplus from the introduction of a new product, entry of a new firm conveys a positive externality on consumers. 2) The business-stealing externality: Because other firms lose customers and profits from the entry of a new competitor, entry of a new firm imposes a negative externality on existing firms.
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Firms advertise because
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When firms sell differentiated products and charge prices above marginal cost, each firm has an incentive to advertise to attract more buyers to its particular product.
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Brand name
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Critics argue that brand names are the result of an irrational consumer response to advertising. Defenders argue that consumers have good reason to pay more for brand-name products because they can be more confident in the quality of these products Benefits are: 1) Perception of quality without knowing the product 2) Incentive to maintain quality products
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Advertising as signal of quality
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Kellogg signals the quality of its product by its willingness to spend money on advertising. What the advertisements say is not as important as the fact that consumers know ads are expensive.
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Advertising could make the product command higher price if
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it can differentiate from the close competitors and create higher perceived value.to make demand more inelastic.
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Advertising could make the product command lower price if
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it attracts more customers so firm can charges lower price to cover its fixed cost.
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The typical firm also has some degree of market power but unlike monopoly, this type of competition called
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imperfect competition
