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BB 107 (Spring) Tutorial 11 Q

1. Monopolistic competition combines elements of both competition and monopoly. It has many firms producing differentiated products, relatively easy entry into the industry, and some control over price through product differentiation. 2. Under monopolistic competition, firms engage in non-price competition through advertising, branding, and differentiating their products. When economic profits exist, more firms will enter the industry, shifting each firm's demand curve to the left and reducing their profits. 3. Product differentiation can involve both real and perceived differences in a firm's products in terms of quality, services, location, promotion or packaging. This limited differentiation gives firms some control over price and loyalty from consumers.

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332 views

BB 107 (Spring) Tutorial 11 Q

1. Monopolistic competition combines elements of both competition and monopoly. It has many firms producing differentiated products, relatively easy entry into the industry, and some control over price through product differentiation. 2. Under monopolistic competition, firms engage in non-price competition through advertising, branding, and differentiating their products. When economic profits exist, more firms will enter the industry, shifting each firm's demand curve to the left and reducing their profits. 3. Product differentiation can involve both real and perceived differences in a firm's products in terms of quality, services, location, promotion or packaging. This limited differentiation gives firms some control over price and loyalty from consumers.

Uploaded by

高雯蕙
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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BB 107 Tutorial 11

Part A: MCQ

1. Nonprice competition refers to:


A. Competition between products of different industries, for example,
competition between aluminum and steel in the manufacture of automobile
parts.
B. Price increases by a firm that are ignored by its rivals.
C. Advertising, product promotion, and changes in the real or perceived
characteristics of a product.
D. Reductions in production costs that are not reflected in price reductions.

2. In the short-run, a profit-maximizing monopolistically competitive firm sets it


price:
A. Equal to marginal revenue.
B. Equal to marginal cost.
C. Above marginal cost.
D. Below marginal cost.

3. In the long run, new firms will enter a monopolistically competitive industry:
A. Provided economies of scale are being realized.
B. Even though losses are incurred in the short run.
C. Until minimum average total cost is achieved.
D. Until economic profits are zero.

4. A monopolistically competitive firm in the short run is producing where price


is $3.00 and marginal cost is $1.50. To maximize profits:
A. The firm should continue to produce this quantity.
B. The firm should increase output and decrease price.
C. The firm should decrease output and increase price.
D. It is unclear what the firm should do without knowing marginal revenue.

5. Monopolistic competition means:


A. a market situation where competition is based entirely on product
differentiation and advertising.
B. a large number of firms producing a standardized or homogeneous product.
C. many firms producing differentiated products.
D. a few firms producing a standardized or homogeneous product.

6. Under monopolistic competition entry to the industry is:


A. completely free of barriers.
B. more difficult than under pure competition but not nearly as difficult as under
pure monopoly.
C. more difficult than under pure monopoly.
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D. blocked.

7. Monopolistic competition resembles pure competition because:


A. both industries emphasize nonprice competition.
B. in both instances firms will operate at the minimum point on their long-run
average total cost curves.
C. both industries entail the production of differentiated products.
D. barriers to entry are either weak or nonexistent.

8. If the number of firms in a monopolistically competitive industry increases and the


degree of product differentiation diminishes:
A. the likelihood of realizing economic profits in the long run would be enhanced.
B. individual firms would now be operating at outputs where their average total
costs would be higher.
C. the industry would more closely approximate pure competition.
D. the likelihood of collusive pricing would increase.

9. A monopolistically competitive industry combines elements of both competition


and monopoly. It is correct to say that the competitive element results from:
A. a relatively large number of firms and the monopolistic element from product
differentiation.
B. product differentiation and the monopolistic element from high entry barriers.
C. a perfectly elastic demand curve and the monopolistic element from low entry
barriers.
D. a highly inelastic demand curve and the monopolistic element from advertising
and product promotion.

Part B: Short Answer

1. Explain verbally and graphically how price (rate) regulation may improve
the performance of monopolies. In your answer distinguish between (a)
socially optimal (marginal‐cost) pricing and (b) fair‐return (average‐total‐cost)
pricing. What is the “dilemma of regulation”?

Monopolies that are natural monopolies are normally subject to regulation.


Because of extensive economies of scale, marginal cost is less than average
total cost throughout the range of output. An unregulated monopolist would
produce at Qm when MC = MR and enjoy an economic profit. Society would
be better off with a larger quantity. Output level Qr would be socially optimal
because MC = Price and allocative efficiency would be achieved. However, the
firm would lose money producing at Qr since ATC exceeds the price. In order
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for the firm to survive, public subsidies out of tax revenue would be
necessary. Another option for regulators is to allow a fairreturn price which
would allow the firm to break even economically (cover all costs including a
normal profit). Setting price equal to ATC would deliver Qf output and only
partially solve the underallocation of resources. Despite this dilemma
regulation can improve on the results of monopoly from the social point of
view. Price regulation (even at the fair-return price) can simultaneously
reduce price, increase output, and reduce the economic profits of monopolies

2. It has been proposed that natural monopolists should be allowed to


determine their profit‐maximizing outputs and prices and then government
should tax their profits away and distribute them to consumers in proportion
to their purchases from the monopoly. Is this proposal as socially desirable as
requiring monopolists to equate price with marginal cost or average total
cost?

No, the proposal does not consider that the output of the natural monopolist
would still be at the suboptimal level where P > MC. Too little would be
produced and there would be an underallocation of resources. Theoretically,
it would be more desirable to force the natural monopolist to charge a price
equal to marginal cost and subsidize any losses. Even setting price equal to
ATC would be an improvement over this proposal. This fair-return pricing
would allow for a normal profit and ensure greater production than the
proposal would.

3. How does monopolistic competition differ from pure competition in its


basic characteristics? From pure monopoly?

In monopolistic competition there are many firms but not the very large
numbers of pure competition. The products are differentiated, not
standardized. There is some control over price in a narrow range, whereas
the purely competitive firm has none. There is relatively easy entry; in pure
competition, entry is completely without barriers. In monopolistic
competition, there is much nonprice competition, such as advertising,
trademarks, and brand names. In pure competition, there is no nonprice
competition.
In pure monopoly there is only one firm. Its product is unique and there are
no close substitutes. The firm has much control over price, being a price
maker. Entry to its industry is blocked. Its advertising is mostly for public
relations.
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5. Explain fully what product differentiation may involve. Explain how the
entry of firms into its industry affects the demand curve facing a
monopolistic competitor and how that, in turn, affects its economic
profit.

Product differentiation may well only be in the eye of the beholder, but
that is all the monopolistic competitor needs to gain an advantage in
the market—provided, of course, the consumer looks upon the
assumed difference favorably. The real differences can be in quality, in
services, in location, or even in promotion and packaging, which brings
us back to where we started: possibly nonexistent differences. To the
extent that product differentiation exists in fact or in the mind of the
consumer, monopolistic competitors have some limited control over
price, for they have built up some loyalty to their brand.
When economic profits are present, additional rivals will be attracted
to the industry because entry is relative easy. As new firms enter, the
demand curve faced by the typical firm will shift to the left (fall).
Because of this, each firm has a smaller share of total demand and now
faces a larger number of close-substitute products. This decline firm’s
demand reduces its economic profit.

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