Chapter 16: Monopolistic Competition

Chapter 16 talks about monopolistic competition. Graphically, there is a downward sloping demand curve, and produces quantity where MR=MC, using the demand curve to find price. In the short run, monopolistic competition is similar to a monopoly. However, unlike a monopoly, monopolistic competitive markets have three main characteristics: many firms, different products, and free entry or exit. Free entry occurs when firms are making profits, giving other firms an incentive to join the market. Conversely, free exit occurs when firms are producing at a loss, making firms have less of an incentive to producing the good.

Equilibriums in a monopolistically competitive market differs from that in perfectly competitive market in two ways: each firm in a monopolistically competitive market has excess turkey, and the other is that each firm charges a price above marginal cost. Each firm in a monopolistically competitive market operates on the downward sloping portion of the average total cost curve.

Monopolistic competition also does not have all of the qualities associated with a perfectly competitive market. Since there is a section between the price over marginal cost that is upped, there is a deadweight loss in monopolistically competitive markets. Also unlike perfectly competitive markets, the number of firms and producers can be too large or too small. Policymakers cannot always correct these differences, but they are able to correct some parts of it.

The differences in products also leads to the use of advertising and brand names. Critics of advertising say that firms manipulate consumers’’ tastes and reduce competition. This is also a psychological phenomenon, when people would decide what they want through advertising (especially through physical aesthetic features and the socially accepted norm of what the good should look like). However, on the other hand, people who defend advertising and brand names argue that the firm’s purpose of using them is to inform consumers and compete more vigorously on price and product quality.