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Chapter 10: Q. 15 (page 252)

Make a case for why monopolistically competitive industries never reach long-run equilibrium.

Short Answer

Expert verified

Monopolistically competitive industries never reach long-run equilibrium because positive profit in the short run causes free entry of firms and as firms enter, cost of creating high degree of product differentiation becomes greater than the price (price in perfect competition) and tendency to exit market grows.

Step by step solution

01

Step 1. Defintion

A market structure that is a blend of monopoly and perfect competition, with large number of sellers selling differentiated products.

02

Step 2. Reason for not reaching long-run equilibrium

Positive profit in the short run causes free entry of firms but entry of more firms reduces the firm's demand curve and marginal revenue curve, economic profit becomes zero gradually and cost of creating high degree of product differentiation increases, firms tends to exit the market and long-run equilibrium cannot be attained.

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Most popular questions from this chapter

Continuing with the scenario in question 1, in the long run, the positive economic profits that the monopolistic

competitor earns will attract a response either from existing firms in the industry or firms outside. As those firms capture the original firm’s profit, what will happen to the original firm’s profit-maximizing price and output levels?

Andrea’s Day Spa began to offer a relaxing

aromatherapy treatment. The firm asks you how much to charge to maximize profits. The first two columns in Table 10.5provide the price and quantity for the demand curve for treatments. The third column shows its total costs. For each level of output, calculate total revenue, marginal revenue, average cost, and marginal cost. What is the profit-maximizing level of output for the treatments and how much will the firm earn in profits?

Price Quantity TC
\(25.00 0 \)130
\(24.00 10 \)275
\(23.00 20\)435
\(22.50 30 \)610
\(22.00 40 \)800
\(21.60 50 \)1,005
\(21.20 60 \)1,225

Sometimes oligopolies in the same industry are very different in size. Suppose we have a duopoly where one firm

(Firm A) is large and the other firm (Firm B) is small, as the prisoner’s dilemma box in Table 10.4 shows.


Firm B colludes with firm AFirm B cheats by selling more output
Firm A colludes with firm B
A gets \(1000,B gets \)100A gets \(800, B gets \)200
Firm A cheats by selling more outputA gets \(1050, B gets\)50A gets \(500, B gets \)20

Assuming that both firms know the payoffs, what is the likely outcome in this case?

Consider the curve in the figure below, which shows the market demand, marginal cost, and marginal revenue curve for firms in an oligopolistic industry. In this example, we assume firms have zero fixed costs.

a. Suppose the firms collude to form a cartel. What price will the cartel charge? What quantity will the cartel

supply? How much profit will the cartel earn?

b. Suppose now that the cartel breaks up and the oligopolistic firms compete as vigorously as possible by cutting the price and increasing sales. What will be the industry quantity and price? What will be the collective profits of all firms in the industry?

c. Compare the equilibrium price, quantity, and profit for the cartel and cutthroat competition outcomes.

If the firms in a monopolistically competitive market

are earning economic profits or losses in the short run, would you expect them to continue doing so in the long run? Why?
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