1. Introduction to Monopolistic Competition
AP Economics
Mr. Bernstein
Module 67:
Introduction to Monopolistic Competition
December 2017

2. AP Economics Mr. Bernstein
Characteristics of Monopolistic Competition
Like Perfect Competition:
Many firms (too many to allow tacit collusion but fewer than Perfect Competition)
No barriers to entry or exit
Like Monopoly:
Some ability to set pricing – faces downward sloping D
But Unlike Perfect Competition or Monopoly…
Products differentiated vs competition
Examples
Local restaurants, retail groceries or clothing stores

3. AP Economics Mr. Bernstein
Monopolistic Competition in the Short Run
D is downward sloping
In Short Run, set P and
Q as a Monopoly would
Can earn profit in
short run

4. AP Economics Mr. Bernstein
Monopolistic Competition in the Short Run
Can also earn loss in
short run

5. AP Economics Mr. Bernstein
Monopolistic Competition in the Long Run
Entry and exit can occur
in response to short-run
profits or losses
Same adjustment
process as Perfect Comp.
Firms will earn normal
profit in the long run
P*=ATC, tangent to ATC (not at minimum…)

6. AP Economics Mr. Bernstein
Monopolistic Competition vs. Perfect Competition
Normal profits in both (easy entry and exit)
MR=MC in both
In Perfect Comp, ATC=P=MR=MC, but in Monopolistic Comp ATC=P > MR=MC…on the downward sloping range of ATC
So Monopolistic Comp in not productively efficient (P=ATC min) and output is less than in Perfect Comp. Economists call this excess capacity

7. AP Economics Mr. Bernstein
Is Monopolistic Competition Inefficient?
Since P>MC, DWL does occur
Because there is some competition, the wedge between P and MC is smaller than in monopoly
Differentiated products bring variety to consumers
Differentiated products also bring some pricing power to producers (the price of variety?)