Chapter 16/Monopolistic Competition ❖ 295
2. Critics of brand names argue that they cause consumers to perceive differences that do not
really exist.
3. Economists have defended brand names as a useful way to ensure that goods are of high
quality.
a. Brand names provide consumers with information about quality when quality cannot be
judged easily in advance of purchase.
b. Brand names give firms an incentive to maintain high quality, because firms have a
financial stake in maintaining the reputation of their brand names.
SOLUTIONS TO TEXT PROBLEMS:
Quick Quizzes
Activity 2
—
Equilibrium Price for Blue Jeans
Type: In-class demonstration
Topics: Product differentiation
Materials needed: None
Time: 5 minutes
Class limitations: Works in any size class
Purpose
This assignment shows that market supply and demand graphs give an oversimplified picture
of price when products are diversified.
Instructions
Ask the students to draw a supply and demand graph illustrating the market for blue jeans.
After they have drawn the graph, have them label the equilibrium price with a real dollar
figure. This dollar amount should reflect the price of jeans as accurately as possible.
Draw a standard supply and demand graph on the board. Ask a student for the equilibrium
price. Ask several more students for their prices.
Common Answers and Points for Discussion
The class will have a whole range of prices for blue jeans, reflecting the range of blue jeans in
the real world. Recent prices at one shopping mall varied from $14 to more than $100 for a
pair of blue jeans. The price differences reflect product differentiation. Quality, style, and
reputation all affect the price of jeans. The simple supply and demand diagram can be useful
by the demand and cost curves of the individual products.
Table 1
296 ❖ Chapter 16/Monopolistic Competition
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Monopolistic competition is a market structure in which many firms sell products that are
similar but not identical. Examples include the markets for novels, movies, restaurant meals,
and computer games.
2. The three key attributes of monopolistic competition are: (1) there are many sellers; (2) each
firm produces a slightly different product; and (3) firms can enter or exit the market freely.
Figure 1
3. Advertising may make markets less competitive if it manipulates people’s tastes rather than
being informative. Advertising may give consumers the perception that there is a greater
differences more easily. Advertising also facilitates entry because it can be used to inform
consumers about a new product. In addition, expensive advertising can be a signal of
quality.
with the brand-name drug selling at a much higher price than the generic drug.
Questions for Review
1. The three attributes of monopolistic competition are: (1) there are many sellers; (2) each
competition because, in the long run, price equals average total cost, as free entry and exit
drive economic profit to zero.
Chapter 16/Monopolistic Competition ❖ 297
2. In Figure 2, a firm has demand curve
D
1 and marginal-revenue curve
MR
1. The firm is
making profits because at quantity
Q
1, price (
P
1) is above average total cost (
ATC
). Those
the marginal-revenue curve to shift to
MR
2. The result is a decline in quantity to
Q
2, at which
point the price (
P
2) equals average total cost (
ATC
), so profits are now zero.
Figure 2
3. Figure 3 shows the long-run equilibrium in a monopolistically competitive market. Price
Figure 3
4. Because, in equilibrium, price is above marginal cost, a monopolistic competitor produces too
firms would lose money unless the government subsidized them.
5. Advertising might reduce economic well-being because it manipulates people’s tastes and
298 ❖ Chapter 16/Monopolistic Competition
© 2012 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
advertising might increase economic well-being by providing useful information to consumers
and fostering competition.
6. Advertising with no apparent informational content might convey information to consumers if
good.
7. The two benefits that might arise from the existence of brand names are: (1) brand names
provide consumers information about quality when quality cannot be easily judged in
advance; and (2) brand names give firms an incentive to maintain high quality to maintain
the reputation of their brand names.
Quick Check Multiple Choice
1. b
2. d
3. a
4. d
5. a
6. c
Problems and Applications
1. a. Tap water is a monopoly because there is a single seller of tap water to a household .
b. Bottled water is a monopolistically competitive market. There are many sellers of bottled
water, but each firm tries to differentiate its own brand from the rest.
c. The cola market is an oligopoly. There are only a few firms that control a large portion of
the market.
d. The beer market is an oligopoly. There are only a few firms that control a large portion of
the market.
2. a. The market for wooden #2 pencils is perfectly competitive because pencils by any
manufacturer are identical and there are a large number of manufacturers.
b. The market for copper is perfectly competitive, because all copper is identical and there
are a large number of producers.
c. The market for local electricity service is monopolistic because it is a natural monopoly—
it is cheaper for one firm to supply all the output.
d. The market for peanut butter is monopolistically competitive because different brand
names exist with different quality characteristics.
e. The market for lipstick is monopolistically competitive because lipstick from different
firms differs slightly, but there are a large number of firms that can enter or exit without
restriction.
3. a. A firm in monopolistic competition sells a differentiated product from its competitors.
Chapter 16/Monopolistic Competition ❖ 299
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b. A firm in monopolistic competition has marginal revenue less than price.
c. Neither a firm in monopolistic competition nor in perfect competition earns economic
profit in the long run.
d. A firm in perfect competition produces at the minimum average total cost in the long run.
revenue and marginal cost.
f. A firm in monopolistic competition charges a price above marginal cost.
4. a. Both a firm in monopolistic competition and a monopoly firm face a downward-sloping
demand curve.
is less than price.
c. A firm in monopolistic competition faces the entry of new firms selling similar products.
d. A monopoly firm earns economic profit in the long run.
and marginal cost.
f. Neither a firm in monopolistic competition nor a monopoly firm produces the socially
efficient quantity of output.
b. The firm may be maximizing profit if marginal revenue is equal to marginal cost.
However, the firm is not in long-run equilibrium because price is less than average total
cost. In this case, firms will exit the industry and the demand facing the remaining firms
will rise until economic profit is zero.
d. The firm could be maximizing profit if marginal revenue is equal to marginal cost. The
firm is in long-run equilibrium because price is equal to average total cost. Therefore, the
firm is earning zero economic profit.
300 ❖ Chapter 16/Monopolistic Competition
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6. a. Figure 4 illustrates the market for Sparkle toothpaste in long-run equilibrium. The profit-
maximizing level of output is
Q
M and the price is
P
M.
Figure 4
c. The consumer surplus from the purchase of Sparkle toothpaste is areas A + B. The
efficient level of output occurs where the demand curve intersects the marginal–cost
demand, from
Q
M to
Q
C.
7. a. As
N
rises, the demand for each firm’s product falls. As a result, each firm’s demand
curve will shift left.
b. The firm will produce where
MR
=
MC
:
100/
N
– 2
Q
= 2
Q
Q
= 25/
N
c. 25/
N
= 100/
N
–
P
P
= 75/
N
d. Total revenue =
P
Q
= 75/
N
25/
N
= 1875/
N
2
Total cost = 50 +
Q
2 = 50 + (25/
N
)2 = 50 + 625/
N
2
Profit = 1875/
N
2 – 625/
N
2 – 50 = 1250/
N
2 – 50
Chapter 16/Monopolistic Competition ❖ 301
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e. In the long run, profit will be zero. Thus:
1250/
N
2 – 50 = 0
1250/
N
2 = 50
N
= 5
8. Figure 5 shows the cost, marginal revenue and demand curves for the firm under both
conditions.
Figure 5
a. The price will fall from
PMC
to the minimum average total cost (
PC
) when the market
becomes perfectly competitive.
output.
d. Marginal cost will rise as output rises. Marginal cost is now equal to price.
9. a. A family-owned restaurant would be more likely to advertise than a family-owned farm
because the output of the farm is sold in a perfectly competitive market, in which there is
no reason to advertise, while the output of the restaurant is sold in a monopolistically
competitive market.
302 ❖ Chapter 16/Monopolistic Competition
cars. The possible return to advertising is greater in the case of cars than in the case of
forklifts.
razor will not.
10. a. Figure 6 shows Sleek’s demand, marginal-revenue, marginal-cost, and average-total-cost
curves. The firm will maximize profit at an output level of
Q
* and a price of
P
*. The
shaded are shows the firm’s profits.
Figure 6
Figure 7).
Figure 7
d. A firm in monopolistic competition produces where marginal revenue is greater than
zero. This means that firm must be operating on the elastic portion of its demand curve.