142_9 - Monopolistic Competition Firms have market power,...

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Monopolistic Competition – Firms have market power, that is, the ability to set price above MC, • which means they face a downward sloping demand • consumers view its products as somewhat different from the other products in the market ---> differentiation – Yet they make zero economic profits in the long-run • This is because there is free entry whenever there are positive profits Villas-Boas - Lecture 9 EEP142 Page 0
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Monopolistic Competition - 2 models – Representative consumer models (RCM) – all firms compete for all consumers who typically buy from each firm. – E.g. restaurants (differentiate in country or cuisine but all compete for the same consumers) – Spatial or location models (SM or LM) – consumers prefer a good with certain characteristics or that are located ear to them and are willing to pay a premium for those preferred ones near to them and are willing to pay a premium for those preferred ones – consumers are more sensitive to relative price changes of products that are closer substitutes than others, e.g. ready-to-eat-cereals Villas-Boas - Lecture 9 EEP142 Page 1
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Monopolistic Competition - 2 models – Representative consumer models – firm’s demand varies continuously with the prices of all firms in market – Spatial or location models – demand varies a lot or very little given a change of price of a close substitute or a not close substitute, respectively. – Both models can be used to compare monopolistic competition outcome with social optimal combination of price level and product variety Villas-Boas - Lecture 9 EEP142 Page 2
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hamberlin’s model of Monopolistic Competition Chamberlin’s model of Monopolistic Competition - Representative Consumer Model – 2 conditions: • A: Entry condition determines the number of firms in market – firms enter when profits are positive and exit when negative. • B: profit maximization by all firms :
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142_9 - Monopolistic Competition Firms have market power,...

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