Description
Describing characteristics of monopolistic competition with the help of various curves.
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Product Differentiation: A monopolistic market consists
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of relatively large number of sellers, each satisfying a relatively small share of total market for similar, but not identical goods, such that each firm has a very little control over market price. Example: Pepsodent & Colgate; Lux, Cinthol & Santoor, etc. No interdependence: The presence of numerous firms with differentiated products ensures no mutual interdependence among them. Rivals’ reactions can be ignored as their impact on other firms is very small and there is no reason for these firms to react. Example: Aiwa & BPL; Relative Freedom: Under monopolistic competition, firms have relative freedom to enter or exit from the market. Industrial Examples: Toilet soaps, toothpastes, restaurants, retail trade, etc.
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While perfectly competitive firms produce and sell homogenous goods, monopolistic competitive producers sell similar products with variations. The variations may be in varied forms – product quality, services, location, advertising and packaging, etc. Product Quality: Differentiation of products may be in the form of qualitative differences in products. Real differences in functional features, materials, design and workmanship are some of the important aspects of product differentiation. Examples: Restaurants, textbooks, garments, etc. Services: Services and other associated activities provided along with the sale of a product result in product differentiation. Examples: Home delivery of products/foods, warehousing facilities, free servicing of motor vehicles, insurance cover, etc.
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Location: Location/accessibility is another cause of product differentiation. Examples: Small groceries or convenience stores located close to the consumer offer greater accessibility than supermarkets located elsewhere. Promotion and Packaging: Advertising and other promotional activities - giving free coupons, free gifts, samples, prizes, etc. - encourage consumers to buy goods and products produced by these firms. Better and attractive packaging differentiates one product from the others. Examples: Advertising: BPL, Onida, Phillips, Ariel and Rin.
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Unlike the demand curve of a perfectly competitive firm, which is perfectly elastic, the demand curve of a firm operating under conditions of monopolistic competition is highly, but not perfectly, elastic due to product differentiation. However, since a large number of firms sell closely substitutable products, it is much more elastic than a pure monopolist’s demand curve. The important reasons of not having perfectly elastic demand curve are: Presence of few firms (when compared to perfect competition) Firms produce only close but not perfect substitute products. Thus, the degree of elasticity of demand of a monopolistically competitive firm depends on the number of rivals and the degree of product differentiation. Fewer the number of rivals and the greater the degree of product differentiation, the lower is the degree of elasticity.
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Product differentiation is the important feature of monopolistically competitive markets. Product differentiation, which arises because of factors like brand names, quality, services, etc, enables the sellers to sell the goods at a higher price. But to create product differentiation, the firm incurs some additional expenditure in the form of advertising cost, product development cost, servicing cost, etc. Thus, average cost of the monopolistically competitive firms will rise due to incurrence of additional costs product development and advertisements, etc. This shifts the average cost curve up and consequently the consumer has to pay a higher price for the goods. Thus, in monopolistically competitive markets the average unit cost is given by [Production cost + Selling cost]/Output
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With the addition of selling, development and promotional costs to production costs, the average cost curve, AC0 shifts upwards to AC1. Thus average cost per unit is higher in monopolistically competitive market, compared to perfect competition.
A Monopolistically Competitive Firm in the Short and Long Run
Rs/Q
Short Run
MC AC
Rs/Q
Long Run
MC AC
PSR PLR DSR DLR MRSR QSR
Quantity
MRLR QLR
Quantity
A Monopolistically Competitive Firm in the Short and Long Run
• Observations (short-run)
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Downward sloping demand--differentiated product Demand is relatively elastic--good substitutes MR < P Profits are maximized when MR = MC This firm is making supernormal profits
A Monopolistically Competitive Firm in the Short and Long Run
• Observations (long-run) – Profits will attract new firms to the industry (low barriers to entry) – The old firm’s demand will decrease to DLR – Firm’s output and price will fall – Industry output will rise – Firm’s demand curve will shift towards the origin on Y axis and becomes flatter, making demand more elastic. – No supernormal profit (P = AC) – P > MC -- some monopoly power
Monopolistic Competition
• Monopolistic Competition and Economic Efficiency
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The monopoly power (differentiation) yields a higher price than perfect competition. If price was lowered to the point where MC = D, consumer would have to pay a lesser price.
Monopolistic Competition
• Monopolistic Competition and Economic Efficiency – With no supernormal profits in the long run, the firm is still not producing at minimum AC and excess capacity exists. – This phenomenon of the consumers paying a higher price and the firm not producing at its possible lowest avg. cost is referred to as “Deadweight Loss”, which does not accrue to the firm or the consumers.
Comparison of Monopolistically Competitive Equilibrium and Perfectly Competitive Equilibrium
Rs/Q
Perfect Competition
MC AC
Rs/Q
Monopolistic Competition
Deadweight loss
MC
AC
P PC D = MR DLR MRLR
QC
Quantity
QMC
Quantity
doc_891731131.ppt
Describing characteristics of monopolistic competition with the help of various curves.
?
Product Differentiation: A monopolistic market consists
?
? ?
of relatively large number of sellers, each satisfying a relatively small share of total market for similar, but not identical goods, such that each firm has a very little control over market price. Example: Pepsodent & Colgate; Lux, Cinthol & Santoor, etc. No interdependence: The presence of numerous firms with differentiated products ensures no mutual interdependence among them. Rivals’ reactions can be ignored as their impact on other firms is very small and there is no reason for these firms to react. Example: Aiwa & BPL; Relative Freedom: Under monopolistic competition, firms have relative freedom to enter or exit from the market. Industrial Examples: Toilet soaps, toothpastes, restaurants, retail trade, etc.
?
?
? ? ?
While perfectly competitive firms produce and sell homogenous goods, monopolistic competitive producers sell similar products with variations. The variations may be in varied forms – product quality, services, location, advertising and packaging, etc. Product Quality: Differentiation of products may be in the form of qualitative differences in products. Real differences in functional features, materials, design and workmanship are some of the important aspects of product differentiation. Examples: Restaurants, textbooks, garments, etc. Services: Services and other associated activities provided along with the sale of a product result in product differentiation. Examples: Home delivery of products/foods, warehousing facilities, free servicing of motor vehicles, insurance cover, etc.
?
?
?
?
Location: Location/accessibility is another cause of product differentiation. Examples: Small groceries or convenience stores located close to the consumer offer greater accessibility than supermarkets located elsewhere. Promotion and Packaging: Advertising and other promotional activities - giving free coupons, free gifts, samples, prizes, etc. - encourage consumers to buy goods and products produced by these firms. Better and attractive packaging differentiates one product from the others. Examples: Advertising: BPL, Onida, Phillips, Ariel and Rin.
?
? ? ?
Unlike the demand curve of a perfectly competitive firm, which is perfectly elastic, the demand curve of a firm operating under conditions of monopolistic competition is highly, but not perfectly, elastic due to product differentiation. However, since a large number of firms sell closely substitutable products, it is much more elastic than a pure monopolist’s demand curve. The important reasons of not having perfectly elastic demand curve are: Presence of few firms (when compared to perfect competition) Firms produce only close but not perfect substitute products. Thus, the degree of elasticity of demand of a monopolistically competitive firm depends on the number of rivals and the degree of product differentiation. Fewer the number of rivals and the greater the degree of product differentiation, the lower is the degree of elasticity.
?
?
? ?
Product differentiation is the important feature of monopolistically competitive markets. Product differentiation, which arises because of factors like brand names, quality, services, etc, enables the sellers to sell the goods at a higher price. But to create product differentiation, the firm incurs some additional expenditure in the form of advertising cost, product development cost, servicing cost, etc. Thus, average cost of the monopolistically competitive firms will rise due to incurrence of additional costs product development and advertisements, etc. This shifts the average cost curve up and consequently the consumer has to pay a higher price for the goods. Thus, in monopolistically competitive markets the average unit cost is given by [Production cost + Selling cost]/Output
?
With the addition of selling, development and promotional costs to production costs, the average cost curve, AC0 shifts upwards to AC1. Thus average cost per unit is higher in monopolistically competitive market, compared to perfect competition.
A Monopolistically Competitive Firm in the Short and Long Run
Rs/Q
Short Run
MC AC
Rs/Q
Long Run
MC AC
PSR PLR DSR DLR MRSR QSR
Quantity
MRLR QLR
Quantity
A Monopolistically Competitive Firm in the Short and Long Run
• Observations (short-run)
– – – – –
Downward sloping demand--differentiated product Demand is relatively elastic--good substitutes MR < P Profits are maximized when MR = MC This firm is making supernormal profits
A Monopolistically Competitive Firm in the Short and Long Run
• Observations (long-run) – Profits will attract new firms to the industry (low barriers to entry) – The old firm’s demand will decrease to DLR – Firm’s output and price will fall – Industry output will rise – Firm’s demand curve will shift towards the origin on Y axis and becomes flatter, making demand more elastic. – No supernormal profit (P = AC) – P > MC -- some monopoly power
Monopolistic Competition
• Monopolistic Competition and Economic Efficiency
–
The monopoly power (differentiation) yields a higher price than perfect competition. If price was lowered to the point where MC = D, consumer would have to pay a lesser price.
Monopolistic Competition
• Monopolistic Competition and Economic Efficiency – With no supernormal profits in the long run, the firm is still not producing at minimum AC and excess capacity exists. – This phenomenon of the consumers paying a higher price and the firm not producing at its possible lowest avg. cost is referred to as “Deadweight Loss”, which does not accrue to the firm or the consumers.
Comparison of Monopolistically Competitive Equilibrium and Perfectly Competitive Equilibrium
Rs/Q
Perfect Competition
MC AC
Rs/Q
Monopolistic Competition
Deadweight loss
MC
AC
P PC D = MR DLR MRLR
QC
Quantity
QMC
Quantity
doc_891731131.ppt