What determines the behaviour of firms?

Syllabus Candidates should be able to: Define monopolistic competition and explain the characteristics of monopolistically competitive markets Show diagrammatically the profit maximising equilibrium in the short run and long run position

Market structures: put the structures along the line below Monopolistic competition, monopoly, oligopoly, perfect competition

Definition – monopolistic competition Monopolistic competition occurs when there are _______ firms in an industry, each selling a __________ differentiated product. The characteristics are: Lots of ________ and sellers No barriers - easy entry and _______ (hence strong competition) Each firm has a degree of monopoly power because products are _____________ Firms are short run ________ maximisers Buyers, differentiated, exit, many, profit, slightly

Examples Examples include:

The demand curve – explanation Since firms sell differentiated products they may set their own ________ (they aren’t price takers). In the short run, firms have a fairly inelastic demand curve (reduce ________ to sell more) and can set their own prices; they make ___________ profits However, since there are many firms (producing relatively similar products) each individual firm has relatively little _______ in the long run. If firms are making high profits, given there are no entry barriers, others will enter the market leading to ______ profits. Hence, in the long run, small changes in price are likely to lead to large changes in demand (relatively elastic)

Diagrams Draw a diagram showing a monopolistic firm making abnormal profit in the short run What assumptions have you made?

Long run In the long run, more firms will enter the industry which will increase supply, shifting the AR curve down to the point where average revenue is equal to average cost. Hence MC = ____ and AR = _____and the AC curve is a tangent to the ______ curve Draw a diagram showing the long run position

Match the examples to the market structure: Butter, Margarine and Olive bases spreads Gas Company Pentagon (military buyer) Semiconductors, because of price of factories Street Market Tesco Walmart Dominant Monopoly >40% Legal Monopoly >25% MonopsonistMonopolistic Competition Natural MonopolyOligopoly Perfect Competition

Efficiency (remember topic 3.4.1) Why is a monopolistic competitive industry allocatively and productively inefficient? Productive efficiency occurs when? Allocative efficiency occurs when? Where do these firms produce? Firms produce when P > MC meaning that resources are Firms do NOT produce where P = min ATC hence not

Limitations of monopolistic competition Some firms are better at brand differentiation and so will be able to make ___________________ profit. New firms will not be seen as a close substitute. Monopolistic competition assumes no barriers to entry but ________________________________________ What is the key difference with perfect competition?