Monopolistic Competition and Oligopoly

Monopolistic Competition:

* relatively large number of sellers

- fewer than in purely competitive market, more than in pure monopoly…

* relatively easy entry into and exist from the market

* differentiated products (accompanied by heavy advertising)

* more competition than monopoly in this market model

- common —> 25-70 sellers in this market model

Monopolistic Competition - some examples

* bars and nightclubs in a given area

* hair salons in a given area

Relatively Large Number of Sellers:

* Generally fewer than 100 sellers- 100s and 1,000s ==> shift toward pure competition

* each firm has small share of total market

- limited control over market price of products

- vs. pure competition => firms have very (very) small share of market and no control over market price

No Collusion

“I never colluded. There was no collusion.

It’s a terrible, terrible thing this collusion business.”

No Collusion

* Too many sellers for them to coordinate to restrict output and set prices (aka rig the market)

* Enough sellers that firms can set prices independently

* Firm A’s price changes may increase/decrease their own sales, but will have little effect on other sellers in market

Differentiated Products

* Pure competition => standardized products

- bananas, strawberries, .2 lead refills for mechanical pencils, staples, etc.

* Monopolistic Competition = variations of given products or services

- physical or qualitative differences: design, materials, workmanship, functional capacities, knowledge and expertise, etc.

- service differences: customer service levels, quickness of response to customers

Differentiated Products

- location: accessibility of stores (local corner store can compete with big box store because of its proximity to neighborhood); hotels/motels… near freeways, airports, etc.

- brand names and packaging: celebrity connections, appeal of packaging to different target groups (age, gender, special interests)

Market Entry and Exit

* What would be a main barrier to entry for a firm in a competitive monopoly?

- advertising costs to establish brand and compete with existing firms

- some firms have trademarks and/or trade secrets that make it difficult to be imitated

- “non-price competition”; increase influence of non-price factors and downplay price differences

- successful firms will have less elastic demand

Demand Curve for Monopolistic Competition

Pric

e an

d C

osts

Quantity

D

* Demand curve is highly but not purely elastic

Purely Elastic - as in Pure Competition

Pure Monopoly - D is more inelastic

Demand Curve for Monopolistic Competition

Why not purely elastic?

* Monopolistic competitor has fewer rivals

* Products are differentiated and are not perfect substitutes

— A firm’s price change won’t necessarily mean that consumers automatically buy from competitors

* Ed depends on number of firms in market and degree of product differentiation

— larger # of rivals and weaker product differentiation = greater elasticity of demand for a given firm (will shift towardpure competition and thus pure elasticity)

Price and Output Short-run Profit

Short-run Loss

Long-run Normal Profit

Long-run Normal Profit

Short-run Profit=> more firms entering market, more close-substitutes=> each firm has smaller share of total market=> demand for each firm falls (curve shifts left)

Long-run Normal ProfitShort-run Loss=> firms losing money will exit market=> fewer close-substitutes in market=> each firm left will have greater share of total market=> demand for each firm will rise (curve shifts right)

Oligopoly

Pure Competition

Monopolistic Competition Oligopoly Pure

Monopoly

* market with a few large producers of either homogenous or differentiated products

* have large shares of total market

* have significant control over their own pricing… but they must consider how their rivals will react

* oligopolies can be global, national, or local

- world => smartphone producers

- national => steel industry (3 main producers in US)

- local => e.g. auto-repair shops in given area

* products can be homogenous (essentially standardized) or differentiated

Mutual Interdependence

* the decisions of a firm will significantly affect the profits of its rival firms

* i.e. the success of an oligopolist depends on the pricing, advertising, brand loyalty, quality of other firms

* firms must make decisions strategically, thinking about how competitors might react

Barriers to Entry

* similar to barriers to entry for pure monopoly

* economies of scale: for some industries only a few companies will reach economies of scale

- e.g. aircraft, rubber, copper industries

* requirement of capital: large expenditure for plants, equipment, etc. to compete with established firms

- e.g. automobiles, oil refineries

* ownership and control of raw materials- e.g. gold, silver, and copper mining industries

Mergers

Natural growth of firm to oligopoly

Merger of 2 or More Firms

- increases market share

- greater control over pricing

e.g. breakfast cereals, chewing

gum, candy- allow for greater

economies of scale