The market includes many buyers and many sellers 2

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Unformatted text preview: ways in which the products of monopolistic competitors differ? A Monopolistic Competitive Market Key Term monopolistic competitive market Characteristics of a Monopolistic Competitive Market Monopolistic Competitive Firms Are Price Searchers 1. The market includes many buyers and many sellers. 2. Firms produce and sell slightly differentiated products. 3. Firms have easy entry into and exit out of the market. Firms in a monopolistic competitive market are price searchers. Why do we consider them price searchers? Because they sell a slightly differentiated product. Suppose firm A is a monopolistic competitive firm or seller. It is currently producing and selling good A at $40 per unit. At this price, it sells 1,000 units a week. If it raises its price to $45, it is likely to still sell some of its product (say, 700 units), because what it sells is not identical to any other product in the market. In other words, consumers will not be able to shift wholly from buying good A to buying an identical good; good A is slightly different from all other goods. Notice that two of the characteristics (the first and third) are the same as found in a perfectly competitive market (a perfectly competitive market has many buyers and sellers and easy entry and exit). One characteristic (the second characteristic) is not found in either a perfectly competitive or monopolistic market. In many cities and towns, you will find a good number of Italian and Mexican restaurants. One restaurant that serves Italian-style food may be similar to, but not identical with, another restaurant that serves Italian-style food. These restaurants operate in a monopolistic competitive market. Between perfect competition at one extreme and monopoly at the other, there are two types of markets: monopolistic competitive and oligopolistic. In this section you will learn about monopolistic competition. In the next section we will examine oligopolies. The three characteristics of a monopolistic competitive market are as follows: monopolistic competitive market A market structure characterized by (1) many buyers and many sellers, (2) the production and sale of slightly differentiated products, and (3) easy entry into and easy exit from the market. 206 Chapter 8 Competition and Markets EXAMPLE: 08 (186-221) EMC Chap 08 11/17/05 5:28 PM Page 207 What Do Monopolistic Competitive Firms Do? Like perfectly competitive firms and monopoly firms, monopolistic competitive firms have to answer two questions: (1) How much do we produce? and (2) What price do we charge? They answer the first question the same way every firm answers it: they produce the quantity of output at which marginal revenue equals marginal cost. They answer the second question the same way monopoly sellers answer it: by searching for the highest price per unit at which they can sell their entire output. If they produce 10,000 units of their good, they search for the highest per-unit price at which they can sell all 10,000 units. QUESTION: What use is it to me to know that one seller (say, a wheat farmer) operates in a perfectly competitive market and another seller (a restaurant) operates in a monopolistic competitive market? ANSWER: What this information helps you understand is why the prices you pay are what they are. Suppose a number of sellers are selling a particular good for the same price. (Every seller is charging $100.) When some people see all the same prices, they sometimes jump to the conclusion that the sellers agreed among themselves to sell the good for the same price. In other words, people think they colluded on price. Of course, another explanation that you learned from our discussion of a perfectly competitive market is that all sellers sometimes sell the good for the same price because they have no other choice. In other words, no collusion is involved at all. It’s just that the sellers are operating in a perfectly competitive market. Suppose you wonder why some medicines are priced as high as they are. Some of the high price has to do with the patents that pharmaceutical companies hold—patents that hold other sellers out of the market (for a period of time). Or suppose you learn that in your town only one cable company has the right to provide cable TV services. Would you have known how this type of monopoly would affect your monthly cable bill? Now you know that limiting entry to a market (for good reasons or bad reasons) always results in higher prices than would have existed had entry not been limited. We do not expect that as the years pass, you will go around in your daily life pointing out which companies are perfectly competitive companies, and which companies are monopolists, and so on. That is not the reason for learning this material. The reason is to understand “how things work” in a part of the world that you might not have understood before. Do you think the owner of this restaurant is a price taker or a price searcher? How Are Monopolistic Competitors’ Products Different? When we say that one product is slightly different from another product, to what are we referring? When we say that McDonald...
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This document was uploaded on 01/16/2014.

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