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Understanding Monopolistic Competition

By HWA | Publish On: August 25, 2011 | Posted In:

Economics Imperfect Competitions – Monopolistic Competition

Monopolistic competition has four distinctive characteristics. There is a very large number of firms. Each firm’s product is slightly differentiated from those of its competitors. Firms are free to enter or to exit the industry. Firms engage in non-price competition such as advertising.

Monopolistic competition is a market structure in which there are many sellers of a commodity, but the product of each seller differs from that of the other sellers in one respect or the other. Thus product differentiation is the characteristic feature of monopolistic competition. This product differentiation manifests itself in several ways, for example, different brands of the product, different trade marks, difference in shape, color and quality. It can also be in the form of difference in services and facilities offered to the consumers by the sellers.

A large number of firms

There are many firms in a monopolistically competitive industry, but not as many as in a perfectly competitive industry. Thus no firm is large enough to dominate the market. Monopolistically competitive markets include hair-dressers, pharmacies and restaurants in a typical large city.

Product differentiation

Each firm’s product in a monopolistically competitive market is slightly different from those of other firms, in terms of product characteristics, service, packaging and advertising. Product differentiation is perhaps the factor that distinguishes this market most from perfect competition. Under perfect competition, where products are homogenous, each firm faces a horizontal demand curve, indicating that each firm’s product is a perfect substitute for that of every other firm.

Freedom of entry or exit of firms

As in case of perfect competition, firms are free to enter and to exit the market anytime under monopolistic competition. The entry or exit of a firm will not change the number of products that are being produced annually. If a firm leaves the industry, the market share of that firm will be equally or proportionately distributed among the rest of the firms, striking a balance between the demand and the supply.

Selling costs

Each firm spends a lot of money in the form of advertisement and publicity of its products. With a view to selling more and more units of the product it gives wide publicity of its products in newspapers, cinemas, journals, TV, internet, etc. These expenses are called selling expenses.

Price control

Each firm in a monopolistic competition has a limited control on the price of its product. Average and marginal revenue curves of a firm under monopolistic competition slope downwards as in case of monopoly. It means that if a firm wants to sell more units of its product it will have to lower the price per unit.

Limited mobility

Under monopolistic competition neither the factors of production nor goods and services are perfectly mobile.

Imperfect knowledge

Buyers and sellers lack perfect knowledge about the price of the product because it is not possible to compare the products of different firms due to the product differentiation.

Non-price competition

Another feature of monopolistic competition is that different firms may cooperate with one another without changing the price of the product. Instead the competition is observed in the type of advertisements about the product. A very good advertisement can generate a good response for the product.

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Our other articles on Economics include Labor Economics, Inflation, Demand for Money, Balance of Payments and Balance of Payment (contd)


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