Business

Economics

Characteristics

Lecture 9:
Monopolistic Competition

Rasyad A. Parinduri

Nottingham University Business School,

Malaysia Campus

Business
Outline Economics

Monopolistic competition
Characteristics
Today:
1 Monopolistic competition

Short-run
Long-run equilibrium
Welfare cost.
2 Market analysis.
 Business
After Attending this Lecture, Economics

...you will be able to

Characteristics
Monopolistic competition:
Describe what monopolistic competition is
Discuss what happens to a firm in the short run and the
long run.

Market analysis:
Do market analysis.

Business
Economics

Characteristics
Performance

Price & Quantity

Decision

Part I

Characteristics
 Business
Market Structure Economics

Monopolistic competition is a mix of monopoly & perfect competition

Characteristics
Performance

Price & Quantity

Decision

Business
Monopolistic Competition Economics

The firm has market power, but zero economic profit...

Characteristics
Performance

Many firms means: Price & Quantity

Decision
Each firm has some market power to influence the price
of its product.
The action of one firm does not directly affect the
action of others.

Differentiated products means:

Each firm makes a product that is slightly different from
others; it faces a downward-sloping demand curve for its
product.

Free entry and exit means:

Firms earn zero economic profit in the long run.
 Business
Economics

Short-Run
Long-Run

Welfare

Part II

Price & Quantity Decision

Business
Short-Run Decision Economics

How much output to produce

Short-Run
Long-Run

Firm’s decisions: Welfare

The firm decides the quality of its product and its

marketing program.
These decisions will determine the firm’s technology,
i.e., its cost curves.
Then, to maximize profit, it produces output at which
MR = MC .
In the short run, the firm may enjoy positive economic
profit, suffer economic loss, or break even.
 Business
Short Run: Price & Quantity Decision Economics

Produce output at which MR=MC

Short-Run
Long-Run

Welfare

Business
Short Run: Price & Quantity Decision Economics

The firm may get economic profit, economic loss, or break even
Short-Run
Long-Run

Welfare
 Business
Short Run: Price & Quantity Decision Economics

The firm may get economic profit, economic loss, or break even
Short-Run
Long-Run

Welfare

Business
Short Run: Price & Quantity Decision Economics

The firm may get economic profit, economic loss, or break even
Short-Run
Long-Run

Welfare
 Business
Long Run: Price & Quantity Decision Economics

Firms get zero economic profit in the long run

Short-Run
Long-Run

Welfare

Business
Long Run: Price & Quantity Decision Economics

Firms get zero economic profit in the long run

Short-Run
Long-Run

Welfare
 Business
Long Run: Price & Quantity Decision Economics

Firms get zero economic profit in the long run

Short-Run
Long-Run

Welfare

Business
Long Run: Price & Quantity Decision Economics

What if firms are experiencing economic losses?

Short-Run
Long-Run

Welfare
 Business
Economics

MC v. PC
Efficient?

Market Analysis &

Business Strategy

Part III

Welfare Cost of Monopolistic

Competition

Business
Monopolistic Competition v. Perfect Competition Economics

Excess capacity & markup

MC v. PC
Efficient?

Market Analysis &

Business Strategy
 Business
Is Monopolistic Competition Efficient? Economics

Inefficiency & variety

MC v. PC
Efficient?

Monopolistic competition seems to be inefficient because: Market Analysis &

Business Strategy
P > MC , MB > MC .
And there is excess capacity.

But, monopolistic competition brings variety:

The markup arises from product differentiation.
Product variety is desirable, though it is costly.

So, whether monopolistic competition is efficient depends on

whether the inefficiency is larger than the value of variety to
consumers.

Business
Economics

Market Structure
Analysis

Take Aways

Part IV

Market Analysis & Business

Strategy
 Business
Market Structure Economics

Monopolistic competition is a mix of monopoly & perfect competition

Market Structure
Analysis

Take Aways

Business
How to Analyze Markets Economics

Identify the best structure that best describes the market of interest
Market Structure
Analysis

Market analysis: Take Aways

1 Define the market the firm is in
2 List down the characteristics of the market of interest
(e.g., many firms, identical products, free entry/exit).
3 Match these characteristics with those of the four
market structures.
4 Decide which market structure that best describes the
market of interest.
5 Use models developed for this market structure to
analyze the market of interest.
Use short-run models to analyze short-run behaviour
... and long-run models to analyze long-run behaviour.
 Business
Take Aways Economics

Monopolistic Competition
Market Structure
Analysis

Key terms: Take Aways

1 Monopolistic competition:

It is a hybrid of monopoly and perfect competition.

Profits:
- In the short run, firms may enjoy economic profit.
- ...but in the long run, economic profit is zero.
Efficiency:
- Firms have markup and excess capacity, so they look
inefficient.
- But, they bring product variety.

Next week’s lecture:

Oligopoly
Read the textbooks.