| Monopolistic Competition |
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| CATEGORIES ABOUT MONOPOLISTIC COMPETITION | |
| imperfect competition | |
| market structure and pricing | |
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CHARACTERISTICS Monopolistically competitive markets have the following characteristics:
The characteristics of a monopolistically competitive market are exactly the same as in Perfect Competition , with the exception of the heterogeneous products. This gives the company a certain amount of influence over the market; it can raise its prices without losing all the customers, owing to brand loyalty. This means its demand curve is downwards sloping, in contrast to perfect competition. BEHAVIOR OF FIRMS A monopolistically competitive firm acts similar to a Monopolist in the short run. This is due to the fact that the firm faces a downward-sloping demand curve, unlike the horizontal demand curve an individual firm faces in a Perfectly Competitive market. The firm simply produces the quantity that maximises Economic Profit . This occurs at the intersection of the Marginal Revenue and Marginal Cost curves. However, this situation does not exist for very long because as other firms notice that there is profit to be made, they will enter the market as there are no barriers to entry (unlike in a monopoly). Conversely, if firms are actually incurring losses, then they will exit the market. This fluctuation in supply will continue until firms are making zero economic profit (but firms would still probably record accounting profit) and the quantity demanded is at the point on the demand curve where price equals Average Total Cost . Unlike in perfect competition, the firm does not produce at the lowest attainable average total cost. Instead, the firm produces at an inefficient output level, reaping more in additional revenue than it incurs in additional cost versus the efficient output level. PROBLEMS While monopolistically competitive firms are inefficient, it is usually the case that the costs of regulating prices for every product that is sold in monopolistic competition by far exceed the benefits; the government would have to regulate all firms that sold heterogeneous products - an impossible proposition in a Market Economy . Another concern of critics of monopolistic competition is that it fosters Advertising and the creation of Brand Names . Critics argue that advertising induces customers into spending more on products because of the name associated with them rather than because of rational factors. This is refuted by defenders of advertising who argue that (1) brand names can represent a guarantee of quality, and (2) advertising helps reduce the cost to consumers of weighing the tradeoffs of numerous competing brands (see, Davies and Cline 2005). NOTES |
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