Lecture 19-Monopolistic Competition

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1 Aug 2010
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Monopolistic Competition
1. Firms maximize profits where MR=MC
2. Short-Run
Firm may:
Earn zero economic profit (P=ATC)
Earn economic profit (P>ATC)
Suffer economic loss (P<ATC)
3. Long-Run
Firms earn zero economic profit (P=ATC) Due to freedom of entry/exit
Monopolistic Competition: Entry of New Firms
Suppose
20 pizza shops
Each has 1/20th RI³PDUNH
Each earn economic profit
Result
10 new pizza shops open (no barriers to entry)
Each has 1/30th RIWKH³PDUNH
Demand curve shifts to the left
Ù Each of initial shops has 1/30th RIWKH³PDUNHW´
Ù Demand curve of initial shops have shifted leftward
Monopolistic Competition: Short-Run Equilibrium
1. P>ATC => economic profits
2. No barriers to entry => new firms enter industry
3. New firs enter industry => DD shifts leftward
P
DD
Q
MC
MR
ATC
Economic
profits
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Document Summary

Monopolistic competition: firms maximize profits where mr=mc, short-run. Suffer economic loss (p=atc) (p>atc) (patc => economic profits, no barriers to entry => new firms enter industry, new firs enter industry => dd shifts leftward. Observations: (i) (ii) there is no supply curve (since firms face downward-sloping demand curves) Unlike perfect competition, entry of new firms does not shift supply curve to right. Mr1: p1 < p (due to leftward shift of dd to dd1 and leftward shift of mr to mr1, excess capacity: q1 is lower than output at which atc is at a minimum. Results (1) firms do not produce at minimum atc (unlike perfect competition) Have some degree of market power (ability to raise price without losing all clients)

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