Product differentiation, monopolistic competition and oligopoly

Question 1

what are characteristics of perfect competition?

Answer 1

1. high level of competition, many firms and producers
2. Price takers (must take price set by the market; no control over price due to high level of competition)
3. homogenous products, perfect substitutes for each other
4. easy for competitors to enter and leave (low barriers of entry)

Question 2

firm with perfect competition looks like

Answer 2

perfectly elastic

no control over price

if they raise their price to 11, then consumers will go to their competitors

no reason to sell below 10 as they could be selling a higher price –> make more profit

Question 3

in the perfect competition price elasticity diagram, the perfectly elastic line can also be

Answer 3

marginal revenue: selling an additional unit will be an increase in 10 of revenue

D = AR (average revenue) = MR (marginal revenue) = P

Question 4

how many units should a firm in perfect competition produce?

Answer 4

according to profit maximisation rule, should qty where MR= MC, and always produce qty where MR>MC

at the point where MR (additional revenue of producing that unit) = MC (additional cost from producing that unit) (stop producing) (this is the profit maximising qty)

if you produce where MC > MR, less profit

Question 5

what is total revenue?

Answer 5

Question 6

what is the total cost of producing at 10 units?

Answer 6

Question 7

what is the profit the firm is making from producing 10units?

Answer 7

Question 8

firm making a loss in perfect competition, selling at $10

Answer 8

Question 9

firm in perfect competition breaking even, selling at $10

Answer 9

Question 10

firm in perfect competition, selling at $10 and making a profit

Answer 10

Question 11

what is the profit maximising qty?

what is the total revenue at that qty?

how much is the profit?

where MR = $30

Answer 11

1. 5 units as MR> MC
2. total revenue = 30 x 5 = 150
3. profit = total revenue - total cost = 150-80 = 70

Question 12

what happens to firms in perfect competition in the long run?

Answer 12

due to low barriers of entry, more competitiors will enter, causing the supply curve to shift to the right in the market supply and demand graph –> market price falls

therefore, firms in perfect competition will have to reduce their price, as they are price takers. Firm will go into a long-run equillibrium at MR= MC which means no profit will be made

Question 13

what is monopolistic competition?

Answer 13

1. Some control over price
2. Relative number of competitors
3. differentiated products, not identical
4. relatively low barriers to entry

Question 14

what is oligopoly competition?

Answer 14

1. high level of control over price
2. few firms
3. can be identical or different
4. high barriers of entry

Question 15

what is a monopoly?

Answer 15

1. price setters (total control over price)
2. One firm
3. unique products
4. very high barriers of entry

Question 16

why is the demand/MR/AR/P perfectly elastic in perfect compettition?

Answer 16

because firms in perfect competition are price takers. The firm can sell as many products as they want at the price set by the market

Question 17

Answer 17

a) at qty 0, total costs = 20 therefore, fixed cost must be 20
b) 27-20 = 7
c) 4
d) number of firms will increase in the long run, as profit attracts new firms. Profit= total cost (TC) - total revenue (TR)
e) short run, firms might enter or leave. Long run, no change.

Question 18

firms in an oligopoly may

Answer 18

lower price

or maintain price

Question 19

what is ACDC’s dominant strategy

Answer 19

Should maintain

as 150>110

120>100

Question 20

what is clifford’s dominant strategy?

Answer 20

no dominant strategy

if they maintain receive, 140

lower receive 130

maintain receive 100

lower receive 150

Question 21

what happens if clifford does not have a dominant strategy?

Answer 21

Look at competitor’s strategy

As ACDC plans to maintain,

Clifford should also maintain since 140>130, and this will give them the most profit. This will give them the Nash equilibrium

Question 22

find A and B’s dominant strategy

Answer 22

A’s dominant strategy is to run advertisement as 100>75 and 90>60

B does not have a dominant strategy as 85>80 BUT 60

Question 23

Find dominant strategies (if there is one)

Answer 23

Firm X should lower price as 40

Firm Y should lower price as 30

Question 24

what keeps prices down in oligopoly?

Answer 24

competition between the firms

Question 25

firms in oligopoly may engage in

Answer 25

collusion, where the colluding members both raise prices in effort to make more profit But this unethical

Question 26

firms in oligopolies are \_\_\_ which means

Answer 26

interdependent which means their decisions will be directly influenced by their competitor's. Firm needs to be aware of how their competitors **will act and respond**

Question 27

as oligopolies are interdependent, they will need to use

Answer 27

game theory, which is the study of strategy

Question 28

describe game theory in terms of prisoners dilemma

Answer 28

2 people arrested, charged of a crime and put in 2 different cells The prisoners can either deny or confess to the crime. There are 4 possible outcomes that can occur

Question 29

in oligopolies, products are

Answer 29

similar but differentiated through product differentiation

Question 30

what does monopolistic competition have in common with a monopoly and perfection competition

Answer 30

- price setters - demand does not equal to marginal revenue (MR) like perfect competition, * low barriers to entry * products are differentiated, close substitutes, **_not identical --\> some control over price_**

Question 31

a monopolistic competing firm in the short-run

Answer 31

they are making profit in the short-run

Question 32

in monopolistic competition, in the long run

Answer 32

More competitors enter the industry (due to low barriers of entry) and as they see industry is profitable--\> **more subsitutes** ---\> shifts demand curve to the left --\> **zero economic profit** in the long run ## Footnote Here, ATC=D where MR=MC (DON'T FORGET)!! TR=TC - breakeven

Question 33

what may result to deadweight loss?

Answer 33

- monopoly - monopolistic competition - excise tax - price ceiling

Question 34

where is consumer surplus when a price ceiling is imposed?

Answer 34

Question 35

what is marginal revenue and marginal cost

Answer 35

additional revenue for each additional output additional cost for each additional output

Question 36

What does each firm in an oligopoly have? What does this affect?

Answer 36

Each firm in an oligopoly has market power. This gives each firm power to influence the market price

Question 37

What is product differentiation? Why is this beneficial?

Answer 37

Firms produce goods slightly different to their competitors **Greater variety** of consumer and capital goods

Question 38

How are products differentiated?

Answer 38

1. Physical Characteristics 2. location 3. Time 4. Convenience

Question 39

Why may firms differentiate their products?

Answer 39

To maximize their profits i.e. firms will attempt to differentiate their products if the additional revenue from product differentiation is greater than the additional costs.

Question 40

Why does a monopolistically competitive firm’s demand curve slope downward?

Answer 40

because of product differentiation. When a monopolistically competitive firm raises its price, the quantity demanded of its product goes down, as consumers will choose to purchase substitutes

Question 41

What is a characteristic of monopolistic competition that perfect competition also has?

Answer 41

Monopolistic competition, like competition, has many firms with free entry and exit

Question 42

why is entry and exit important component of monopolistic competition?

Answer 42

firms can enter the industry if it is profitable, and exit if there are losses

Question 43

How is monopolistic competition similar to monopoly in the short run?

Answer 43

Maximise profits by producing where MC=MR

Question 44

How does the Long-Run Monopolistically Competitive Equilibrium show **excess capacity**?

Answer 44

Each firm operates with some excess capacity (**produces below the level that gives the minimum average total cost)** in the sense that it could increase output and reduce ATC

Question 45

Deadweight loss in monopolistic competition can also be seen as

Answer 45

deadweight loss and excess costs can be viewed as the price consumers pay for the variety of products.

Question 46

why do monopolistically competitive firms choose not to expand production and lower price, where ATC can be minimised?

Answer 46

because they have **some market powe**r to keep their prices a little higher and their output a little lower than that.

Question 47

why is the competitive market efficient?

Answer 47

consumer surplus plus producer surplus is maximized and there is **no deadweight loss.** **produce where P=MC** ATC is minimizedd

Question 48

Similarities between monopoly and monopolistic competition

Answer 48

1. both produce where P\>MC 2. Inefficient as consumer and producer surplus is not maximised; creating deadweight loss 3. ATC is not minimized

Question 49

Difference between monopoly and monopolistic competition

Answer 49

Monopoly: In the long run makes **positive profit as no firms can enter the market** Monopolistic competition: In the long run, **breakseven** due to entry and exit of firms in the industry

Question 50

in an oligopoly, each firm can have an

Answer 50

influence on the market price even if the goods are **homogeneous**

Question 51

what is the payoff matrix?

Answer 51

it is used to illustrate game theory

Question 52

Clyde is better off

Answer 52

confessing regardless of whether Bonnie confesses or remains silent. as 5 1

Question 53

what is the outcome? is this the best outcome?

Answer 53

Bonnie and clyde will both confess, resulting to a non-cooperative outcome no, as this would lead to 5 years in jail each If they agreed in advance to both remain silent, they would have 3 years in jail each

Question 54

what is noncooperative outcome

Answer 54

an equilibrium in a game where the players cannot agree to cooperate and instead **follow their individual incentives.**

Question 55

what is cooperative outcome

Answer 55

an equilibrium in a game where the players agree to cooperate.

Question 56

what does game theory suggest?

Answer 56

that collusivebehavior will frequently break down, making noncooperative outcomes more likely.

Question 57

Collusion is more likel ywhen

Answer 57

firms interact repeatedly in a market and secret defections can be prevented.

Question 58

what happens in the long run in terms of MC firms?

Answer 58

MC firms have no incentive to enter (zero economic profits)

Question 59

2 characteristics of LR equilibrium in MC industry

Answer 59

1. P\> MR just like monopoly case due to downward sloping demand 2. P = ATC just like competitive case due to free entry and exit of firms D curve is tangent to ATC and P\* = ATC (at Q\*)