Get the answer for: What is Monopolistic Competition?
Monopolistic competition, observes E. Chamberlin, is a composite of monopoly and competition. It refers to a market situation in which there are a large number of producers but their products or services are so differentiated that the product of one firm is not regarded as a perfect substitute for that of another.
Monopolistic competition has the following distinguishing features:
(a) A large number of buyers and sellers,
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(b) Differentiated products for each firm through trademarks or trade-names or brand or design or packing’s and containers, etc.,
(c) Presence of advertisement expenses or selling costs to increase the demand for the product of each firm and inclusion of such costs in the total costs,
(d) Partial control over market supply and price of each firm due to the presence of both monopolistic and competitive elements,
(e) Free entry of new firms into the industry in the long run, and
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(f) Both individual and group equilibrium due to the co-existence of monopoly and competition.
The markets for most of the manufacturing products like toothpaste, blades, soaps, powder, hair oil, textiles, common drugs, fountain pens, radio sets, detergents, etc. are monopolistically competitive as these products are produced by a large number of producers in different trade-makers and brand-names, and each of these products is not a perfect substitute for another but is treated as a close substitute.
According to Chamberlin, neither pure monopoly nor pure competition is found in real life; the actual markets for most of the products have the elements both of monopoly (brand monopoly through patent rights) and of competition.
A monopolistic competitor, like any other firms, wants to secure maximum total profits. It gets the maximum total profits at the output at which its marginal cost is equal to its marginal revenue. Under monopolistic competition a firm is to incur advertisement expenses or selling costs. So it has to include selling costs into its total costs. So the net revenue of the firm is
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Total revenue — (Production costs + selling costs)
Another point to note is that the average revenue (demand) curve of a monopolistic competitor has a downward slope, indicating larger sales at lower prices. For this reason, the marginal revenue under monopolistic competition becomes smaller than the average revenue. But the demand curve is more elastic than that under monopoly due to the presence of close substitute items.
In the short period a monopolistic competitor may get excess profits when its price or average revenue exceeds its average cost, because such excess profits cannot attract the new firms into the industry.
But in the long run a monopolistic competitor is to arrive at equilibrium along with other competing firms, what is known as group equilibrium. In such a period, new firms may enter the industry because of excess profits, or the existing firms may leave the industry due to losses. Excess profits or losses ultimately disappear in the long run.
The following important points are to be noted in context:
(a) In the long-run when entry is full, firms make only normal profits.
(b) When the cost conditions are not the same, some firms will continue to get excess profits even in the long-run.
(c) In the long run, although the price is equal to the average cost under monopolistic competition, it is not equal to the minimum average cost. It shows that a monopolistic competitor in the long-run does not produce up to its optimum capacity, as a result the output become smaller than the optimum one and each firm has an un-utilised capacity or excess capacity. The net consequence of this is that monopolistic competition causes a waste of resources, too high a price for the consumers. For this reason, Samuelson remarks, “imperfect competition may result in waste of resources, too high a price, and yet no profits for the imperfect competitors”.