Monopolistic Competition

Objective: To demonstrate understanding of monopolistic competition market structure.

Use the graph below to answer the questions that follow.

P0

AC0

Q0

a) What will be the price and quantity of production for the firm? Please mark on the graph.
The price is P0 and the quantity Q0.

b) Will the firm be earning a profit, suffering a loss, or breaking even in the short run? Please
mark that area and reference on the graph.

It can be seen that the price of the good P0 is above the average cost of the good at AC0. As
sucht he firm is making supernormal profits.

c) Briefly explain why the demand curve is distinguished from the perfectly competitive
demand curve.
In a perfect competition market , the firms are all price takers owing to the fact that
there is perfect information, homogenous good and many buyers and sellers. As
such the demand curve of the perfect competition firm is a straight line.

However, in the monopolistic competition market, the firm still is able to differentiate
his product to distinguish it from the rest of the other substitutes and as such he is
still able to lower his price and still able to increase output and his nett revenues. As
such the demand curve for the monoplistic competitive firm is downward sloping.
d) Why will this company not be able to maintain an economic profit in the long run.
• Offer a brief explanation.

In the long run , owing to short term normal profits, more and more firms will enter the
market as producers and this will shift the market price closer to the average cost of
producing the good. Ultimately the price will may fall below aveage cost incurring
economic lossess. When this happens, the firms will shutdown and the supply curve
will shfit leftwards bring the price of the good back and ultimately stoping at the
average cost as such making only normal profits in the long run.

• Mark the above graph to demonstrate this firm's long run condition.