MONOPOLISTIC COMPETITION


Meaning
            Monopolistic competition is a combination of both ‘monopoly’ and ‘competition’ The credit of developing this theory goes to Prof. Edward Hastings Chamberlain of Harward University. He is the main architect and builder of this theory. In reality there is no monopoly and perfect competition and there exists only monopolistic competition.

Main Features
            Monopolistic competition is characterized by the existence of several firms selling goods which are close substitutes of each other. The following are the important features of monopolistic competition
.
1. Existence of a large number of firms
            There are a large number of firms producing goods under monopolistic competition. It may vary from ten to thirty, as the number of firms is quite large.

2. Product Differentiation
            The most important feature of monopolistic competition is product differentiation. The products are identical but not similar. For example, different manufactures produce soaps under different brands like Lux, Hamam, Pears, Lyril and so on. Product differentiation can be brought about through differences in branding, trade mark, package, design and colour.

3. Selling Costs
            Another feature of monopolistic competition is selling costs. The firm under monopolistic competition should incur certain expenditure on promoting the sales. The amount spent by the firm on sales promotion is known as selling costs. Selling costs include not only the advertising costs but also other costs such as salaries of salesman, door to door canvassing etc.
4. Free entry and exist
            There is a freedom of entry and exist of firms. A new firm may enter into the production and an old firm may come out of the production.

5. Group of firms
            In monopolistic competition, the term “Group Equilibrium” is used to denote the number of firms producing similar goods
            Price Determination under Monopolistic Competition:
            Short-run Equilibrium

            Under monopolistic competition, different firms produce different varieties of products. Each firm will fix its own output and price. Like any other firm, the firms under monopolistic competition attempts to maximize the profits. The firm under monopolistic competition in the short-run will be in equilibrium when MC = MR. The price and output determination are shown with the help of the following diagram.
 






            In the diagram-
            AC is the average cost curve.
            MC is the marginal cost curve.
            AR is the average revenue curve.      
            MR is the marginal revenue curve.

            At point K equilibrium is established, where MC – MR. The equilibrium output is OM. MR is the cost and MQ is the price, the firm earns super normal profits which are shown by the shaded area PQRS.

Equilibrium with Losses
            When average revenue is less than the average cost the firm may incur loss. This is shown in the following diagram
            Q is the equilibrium with MR – MC.
            PQRS-Total Loss.


 


Long-run Equilibrium or Group Equilibrium under Monopolistic Competition
            According to Prof. Chamberlin, a group consists of many firms whose products are very much similar to one another. A ‘Group’ is not one industry. The term ‘industry’ is much broader than the term ‘group’. An industry may consist of many groups of Producers. For example, in the soap industry, one group may specialize in toilet soap another group may produce shaving soap. There will be a competition between the firms in the same group but not between different groups.

            In order to present the group equilibrium, Prof. Chamberlin makes certain assumptions. The important assumption is that each firm has identical demand. This assumption is called the “Symmetry” or “Heroic” assumption. The equilibrium of group under monopolistic competition may be shown with the help of the following diagram.


 



The long-run group equilibrium is established at the point where AC- Price. This is possible only when the AC is tangent to the AR. In this figure AR is tangent to AC curve at point Q. The equilibrium output is OM and the price is OP which is equal to the cost of production. At this price, the firms in the group are earning only normal profits and supernormal profits have disappeared. All the firm in the group are also in equilibrium. This is called ‘Group Equilibrium’.

Selling Costs
            The firm under monopolistic competition incurs certain expenditure on selling activities. This is called selling cost. These objective of the selling costs is to increase the demand for the products of he firm. Prof. Chamberlin has defined selling costs as costs incurred in order to alter the position and shape of a demand curve for a product.
More Notes
Related Topics

OBJECTIVES OF PROFIT MAXIMIZATION
MEANING AND SCOPE OF BUSINESS ECONOMICS
DEMAND ANALYSIS
ELASTICITY OF DEMAND
DEMAND FORECASTING
BUSINESS CYCLES – TYPES AND PHASES 
MARKET STRUCTURE
PERFECT COMPETITION
MONOPOLY
SOCIAL RESPONSIBILITY OF BUSINESS
PRICE DISCRIMINATION
OLIGOPOLY AND DUOPOLY
ECONOMIC LIBERALIZATION
NEW GENERATION OF PRIVATE BANKS AND SCOPE (ICICI , HDFC, UTI, IDBI, INDUSIND BANK, BANK OF PUNJAB, CENTURION BANK) RECENT TRENDS IN GLOBAL BUSINESS

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