HAPTE SLIDES BY SOLINA 15 LINDAHL Monopolistic Competition
HAPTE SLIDES BY SOLINA 15 LINDAHL Monopolistic Competition and Product
FOOD FOR THOUGHT…. SOME GOOD BLOGS AND OTHER SITES TO GET THE JUICES FLOWING: C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
What you will learn in this chapter § The meaning of monopolistic competition § Why oligopolists and monopolistically competitive firms differentiate their products § How prices and profits are determined in monopolistic competition in the short run and the long run § Why monopolistic competition poses a trade-off between lower prices and greater product diversity § The economic significance of advertising and brand names To Video To First Active Learning C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
THE LANDSCAPE OF FIRMS YOU ARE HERE Competition Monopolistic competition Oligopoly Monopoly More competition (less price control) C O P Y R I G Less competition (more price control) H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
MONOPOLISTIC COMPETITION Monopolistic competition is a market structure that’s a little like monopoly and a little like perfect competition. Specifically: § many competitors § products similar but not identical § free entry into and exit from the industry in the long run Restaurants: monopolistic competitors C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
PRODUCT DIFFERENTIATION Product differentiation plays a crucial role in monopolistic competition. Tacit collusion is almost impossible when there are many producers. Product differentiation is the only way these firms can acquire some market power. C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
PRODUCT DIFFERENTIATION There are three important forms of product differentiation: Differentiation by style or type sedans vs. SUVs Differentiation by location dry cleaner near home vs. cheaper dry cleaner far away Differentiation by quality ordinary ($) vs. gourmet chocolate ($$$) C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
PRODUCT DIFFERENTIATION There are two important features of industries with differentiated products. Competition among sellers: Entry by more producers reduces the quantity each existing producer sells. Value in diversity: Consumers gain from the increased diversity of products. C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
ECONOMICS IN ACTION Any color, so long as it’s black Ford’s strategy was to offer just one style of car, which maximized his economies of scale but made no concessions to differences in taste. Alfred P. Sloan of GM challenged this strategy by offering a range of car types, differentiated by quality and price. By the 1930 s the verdict was clear: Customers preferred a range of styles! C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
A (BLACK) STYLE FOR EVERY OCCASION C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
SHORT-RUN PROFIT MAXIMIZATION Same profit maximizing rule as previously used: 1. Produce the Q at which MR = MC. 2. Like monopoly firms, set price according to demand. Price, cost, marginal revenue MC This profit will attract new entrants. ATC Z P ATC Profit This profit cannot last. D MR Q C O P Y R I G H T 2 0 1 5 W O R T H P U B L I Quantity S H E R S Back to Table of contents
LEARN BY DOING: v PRACTICE QUESTION To identify the profit-maximizing output for this firm in the short run, this graph needs: a) the market price identified. b) the MR curve identified. c) the AVC curve identified. d) All of the answers are true. e) Answers (b) and (c) are true. To Next Active Learning C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
ADJUSTMENTS TO LONG-RUN EQUILIBRIUM New entrants mean fewer customers for the original firms: Demand MR shift left. (Economic) profits fall to zero: Firms break even and new entry stops. MC Price, cost, marginal revenue ATC P P = ATC Profit ATC D MR Q Q C O P Y R I G H T 2 0 1 5 W O R T H P U B L I Quantity S H E R S Back to Table of contents
SHORT-RUN LOSSES New exits mean more customers for the remaining firms: Demand MR shift right. (Economic) profits fall to zero: Firms break even and exits stop. MC Price, cost, marginal revenue ATC P = ATC Loss D MR Q Q C O P Y R I G H T 2 0 1 5 W O R T H P U B L I Quantity S H E R S Back to Table of contents
THE LONG-RUN ZERO-PROFIT EQUILIBRIUM Price, cost, marginal revenue MC Point of tangency ATC Z PMC = ATCMC DMC MRMC QMC C O P Y R I G H T 2 0 Quantity 1 5 W O R T H P U B L I S H E R S Back to Table of contents
ZERO PROFIT IN THE LONG RUN If firms are earning economic profits, new firms will want to enter the industry. This will reduce the demand curve facing each individual producer. In the long run, each supplier will earn normal profits, and price will equal ATC. C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
COMPARING LR EQUILIBRIUM IN PC AND MC (a) Long-run equilibrium in perfect competition Price, cost, marginal revenue MC ATC (b) Long-run equilibrium in monopolistic competition Price, cost, marginal revenue MC ATC PMC = ATCMC PPC = MCPC = ATCPC D = MR = PPC MCMC DMC MRMC QPC QMC Quantity Minimum-cost output C O P Y R I G H T 2 0 Minimum-cost output 1 5 W O R T H P U B L I S H E R S Back to Table of contents
IS MONOPOLISTIC COMPETITION INEFFICIENT? Firms in a monopolistically competitive industry have excess capacity: They produce less than the output at which average total cost is minimized. C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
IS MONOPOLISTIC COMPETITION INEFFICIENT? Price > MC, so some mutually beneficial trades are unexploited. C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
IS MONOPOLISTIC COMPETITION INEFFICIENT? Is the higher price worth the extra diversity of product C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
THE ECONOMICS OF ADVERTISING Oligopolies and monopolistically competitive firms advertise. Is advertising good or bad? Yes. (There are different types of advertising. ) C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
ECONOMICS IN ACTION THE PERFUME INDUSTRY: LEADING CONSUMERS BY THE NOSE Only 3% of a perfume bottle’s cost is ingredients… the rest is marketing and packaging. Studies show that people identify their favorite scents based on ego and branding… and often dislike the same scents in blind tests. C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
TYPES OF ADVERTISING Advertising as part of the product: Even if NO information is given, does “branding” make the product more enjoyable? Tasters enjoy the cola more if it’s labeled “Coke”… C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
TYPES OF ADVERTISING “Informative” advertising: price, quality and availability information C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
ECONOMICS IN ACTION THE HOUSING BUST AND THE DEMISE OF THE 6% COMMISSION Real estate agents look a lot like Monopolistic Competitors… except that they collected a high price that never changed (6% commission) Why? • They controlled the MLS (Multiple Listing Service) • They refused to work with discounters What has changed? • Justice department sued the national agents’ group • Housing crash forced commissions down C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S
TYPES OF ADVERTISING Advertising as Signaling “If they’re spending so much $$$ on advertising for this product, they must expect it to be profitable and around a long time. Must be good. ” C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
LEARN BY DOING: APPLICATION VIDEO In this engaging TED talk, Rory Sutherland makes the daring assertion that a change in perceived value can be just as satisfying as what we consider “real” value—and his conclusion has interesting consequences for how we look at life. (16 minutes) C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
LEARN BY DOING: PRACTICE QUESTION In your opinion, is advertising “worth it” for society? a) Yes b) No C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
LEARN BY DOING: BUSINESS CASE GILETTE VERSUS SCHICK: A CASE OF RAZOR BURN? Competitive razor launches and their huge advertising budgets: are they worth it? Do you pay more for the innovation of the Hydro 5, Fusion Pro-Glide with Flex. Ball TM ? Or are you joining the Dollar Shave Club? C O P Y R I G H T 2 0 1 5 W O R T H P U B L I S H E R S Back to Table of contents
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